What AM Best Says
AM Best: Total Dedicated Reinsurance Capacity Increased Sharply in 2020
The 7% increase is wholly attributable to the rises in traditional reinsurance capital.
Dedicated reinsurance capacity in 2020 topped $517 billion and was driven by a 7% increase on the traditional side, said Dan Hofmeister, senior financial analyst, AM Best. The analysis is part of AM Best's annual Global Reinsurance Market Segment Report, Global Reinsurance Outlook Remains Stable in a More Uncertain World.
Following is an edited transcript of the interview with AM Best TV.
The majority of the rise in traditional reinsurance capital actually comes from the 10 largest reinsurers, whose capital rose roughly 12% in 2020.
Dan Hofmeister
AM Best
As the global reinsurance market has evolved, so has the capital supporting this business. With various forces impacting capital levels, they are also impacting the utilization of that capital. The report notes that total dedicated reinsurance capacity increased sharply in 2020. What are the factors that drove this?
The 7% increase that we witnessed this year to $517 billion is really wholly attributable to the rises in traditional reinsurance capital. The third-party capital remained relatively flat, due to the trapped capital and loss creep from prior years, although we have seen some renewed appetite from insurance-linked securities investors in the first half of this year.
In particular, in cat bonds, we would expect a slight increase as this year ends, but it's still a little bit of early days for that. The majority of the rise in traditional reinsurance capital actually comes from the 10 largest reinsurers, whose capital rose roughly 12% in 2020.
That growth stems mostly from the recovery and then rise in the investment values through the second half of the year following many of those stimulus packages that we've seen implemented worldwide. Then, in addition to that, with the rates being lower due to these stimulus packages, we witnessed an influx of new debt in private equity capital into the market.
However, the impact of those two factors was much less pronounced than the investment market impact.
AM Best has noted 2020 was a year of extraordinary losses stemming from the COVID-19 pandemic, as well as continued pressure from hardening market conditions. Doesn't the increase in capital in 2020 contradict these statements?
It's a good question. Not necessarily, although I would admit that at first we were a bit skeptical when we saw the results. The first half of 2020 certainly had its challenges, but the second half of the year was highlighted by the stimulus packages that we just mentioned, which began the recovery in the investment values.
Additionally, the group of companies that we're talking about here have highly sophisticated and time-tested enterprise risk management programs in place, which are designed specifically to withstand abnormal years, such as 2020.
While many of these international reinsurers were impacted by event cancellation and business interruption losses, many of them also benefited from reduced frequency of claims in the personal lines sector as well.
All in all, while the combined ratios were well over 100 for the year, we generally saw positive ROEs within the sector contributing to that capital increase.
The report mentions that capital utilization increased in 2020. What does that mean for the industry?
Now, I think this is actually the most critical point in the report, and probably the most important, in my opinion, as well. Our measure of the total dedicated reinsurance capital is really an absolute figure while the capital utilization measure takes into account the amount of risk retained at the companies as well.
What we've found is that, even though capital is continuing to rise in recent years, the level of capital required to maintain Best's Capital Adequacy Ratio levels has increased at a more rapid rate. Part of that is explained by the increase in capital requirements from asset risk.
This results in lower buffers between the strongest and very strong BCARs for many of the market participants, which is where we see those hardening market conditions and those loss-affected operating results coming into play.
What does AM Best foresee for 2021?
We've estimated roughly 3% growth in 2021 to $441 billion from $429 billion in just the traditional reinsurance capital, although we think that there's going to be some extra there from the third-party reinsurance capital as well.
I think the biggest lesson in 2020 is that a lot can happen throughout the year. While we were conservative with this estimate, I think the second half of the year could really change a lot. The first half of the year's gone well for a lot of reinsurers. They've bolstered capital levels, and the larger uncertainty, I think, is going to be around the capital utilization levels.
As these companies start to increase the premium levels that we've seen throughout the year, that could put some temporary stress on the BCAR levels if the operating results don't begin to improve as well.
