Flandro: Current property cat opportunity comes along once a decade

Reinsurers have a once-in-a-decade property cat underwriting opportunity, with risk-adjusted rates on line now at their highest level for 30 years, according to Howden Tiger’s David Flandro.

Speaking at the Catastrophe, Climate and Capital event hosted by Inigo in London, Flandro – who serves as head of industry analytics and strategic advisory at the reinsurance broker – outlined the case for writing more property cat reinsurance amid current market conditions.

“If I were a reinsurer and I was writing property cat for your business, given the tailwinds in the sector right now, I would think very seriously about underwriting more,” he said.

“The first reason really is very simple. It's called economic value add, it’s the projected return on invested capital for reinsurers minus the weighted average cost of capital.

“If you look at the estimates for what reinsurers can earn in this environment, for the first time in about 15 years it looks like reinsurers, particularly the cat market, are going to exceed their cost of capital.”

Flandro also highlighted net present value as another motivation to increase property cat underwriting.

“This type of market opportunity really comes along once every decade. If you underwrite now, you'll have a better chance of earning profit now, and a lower discount rate increases the valuation of your company.”

He added that inflation has compounded the net risk and expected losses borne by cedants. A regression study run by Howden Tiger estimated that between 2001 and 2022, cedants retained around 54 percent of all nat cat losses.

At the renewal on 1.1.23, running the same numbers over the time period would have seen cedants retain 64 percent.

Cedants have also retained the “overwhelming majority” of this year’s catastrophe losses following increases in attachment points.

In practical terms, this means that risk-adjusted rates on line are at their highest level in more than 30 years since the advent of cat modelling, according to calculations by the reinsurance broker.

Flandro flagged that the rate on line calculation (the ratio of premium paid to loss recoverable in reinsurance contracts) is unique as the numerator is affected by inflation to premium, while the denominator is around exposure rather than limit.

“We do this a little differently than some of the other compilers and indices. In the denominator, we're actually trying to make a calculation around exposure, rather than just using limit,” he explained.

“If you just use limit, it looks like the rates after Hurricane Andrew were a lot more in relative terms. But in our view, especially in Florida, we think the property cat rates are as high as they've ever been.”

Capital raising continues to lag previous post-event trends

Flandro also highlighted the lag in post-Hurricane Ian capital raising in the reinsurance sector, contrary to previous periods of capital entry following 9/11 and Hurricane Katrina.

“This time around, we just haven't had the same level of capital entry. We're starting to, but we're still lagging by quite a bit. This is because what we're going through right now is extremely traumatic for investors,” he said.

“Coming out of Hurricane Irma, we had the AOB losses in Florida which were pretty traumatic for investors – they thought their investment was short duration, highly liquid and non-correlated, but as it happened all of those things were actually wrong. Then we had the Covid-19 pandemic, and coming out of that we had the rapid interest rate rise, the rising inflation, and the significant impairment of reinsurer balance sheets.”

The muted capital raising since Ian comes on the back of a 17 percent decline in dedicated reinsurance capital during 2022.

Combined with Ian losses and the Russia-Ukraine conflict, this pushed investors to become “extremely skittish” of the reinsurance sector, instead favouring asset-light structures such as MGAs.

“The question then becomes, what happens now? Is capital ever going to recover? Will we ever be able to get back to that world we were in?” mused Flandro.

“I don't think we will. I don't think we're ever going to get back to the negative inflation and financial repression, as we called it at the time. I think we're back into a world that's maybe more like the 1990s in terms of where interest rates sit – and inflation as well, if we're lucky.”

Regarding investors’ preference for asset-light structures, Flandro said this demonstrates how the nature of the market is changing.

“Yes, it's coming in through sidecars and we are seeing some potential start-up activity, but it really is coming in a big way through asset-light structures, including MGAs, consortia, reciprocals and other fronting arrangements,” he said.

“We've seen a huge uptick in this activity and this is a new way that the insurance industry is being structured, it's a new channel through which capital is flowing. I encourage everybody to think very seriously how to deploy capital into this market. I think this is, certainly in the context of the last decade and a half, the best time for reinsurance, and particularly the nat cat reinsurance industry.”