The cat capital question…

In our lead E&S Insurer article this month we take a mid-year state-of-the-market look at E&S property, where there are few signs of anything on the horizon that will meaningfully change dynamics with supply still severely constrained and demand up because of higher valuations.

With the exception of some rumblings about growing competition from London, there are no indications that any incumbents are leaning into the market in a way that would undermine pricing discipline.

Instead, brokers continue to grapple with the challenge of finding enough markets to fill out placements given the significantly shorter limits on offer, especially in more distressed territories or classes of business.

While the mid-year cat reinsurance renewals were widely viewed as being more orderly than the turmoil seen at 1.1, rate increases were still significant (Aon yesterday suggested 25-35 percent on average for US property cat treaties), which primary insurers will continue to try and pass on to insureds.

The big question – in property insurance and reinsurance – is why isn’t new capital coming into the sector in a meaningful way when pricing dynamics have shifted so dramatically?

In the E&S market specifically, why is more underwriting capital not being drawn to what many acknowledge to be best ever conditions for carriers given the demand for the product and the rates being achieved?

Well, as this publication has reported in recent weeks, interest and activity in capital raising is ticking up.

The retrenchment of admitted carriers has continued, with the actions of household names such as State Farm and Farmers bringing the issue to mainstream news.

Moves at the margin

And there are moves being made by a number of players to launch or recapitalise E&S platforms to address demand for product as business continues to flow to the non-admitted market.

They include Prime Insurance Company’s Rick Lindsey’s move to launch a new Illinois-domiciled surplus lines carrier that will initially focus on the stressed US property market and Universal founder Brad Meier’s new E&S homeowners and SME insurer NormanMax.

Both – at least in their start-up phase – are zeroing in on the market dislocation in the property market and using the freedom of rate and form offered by the E&S carrier model to navigate the challenges and seize the opportunities.

A number of incumbent MGAs in the market have also been building their own balance sheet platforms as surplus lines carriers to not only align interests with reinsurers and benefit from potential hard market underwriting returns, but also to gain access to foundational capacity in a market where it is increasingly difficult to find.

The most recent examples include Victor’s launch of a reciprocal exchange backed by private equity firm Gallatin Point to support business written by its Icat MGA; and Velocity’s creation of an E&S carrier.

Meanwhile, Sentry Insurance Group has become the latest admitted carrier to add a surplus lines subsidiary in the form of Point Excess and Surplus Insurance Company, which has been assigned an A+ rating by AM Best.

Sources have said there are plenty of other mooted ventures and business plans on the sidelines.

Limited impact

But for all the activity, the combined size of those that have so far materialised is expected to amount to only a few hundred million dollars, at least initially. And although they all have E&S property as part of their business plan, they are targeting different niches.

That means any impact on the supply side of the equation is expected to be very limited.

Closing the gap between demand and supply – for property cat insurance and reinsurance – would require billions if not tens of billions of new capital to come in.

In previous hard markets, the capital has flowed in rapidly at volume in search of quick returns from sky-high pricing.

This time there is a clear reluctance from investors, however. Concerns around climate change are one driver, with cat viewed as a “dirty word” by many investment committees after years of losses, many of which have not conformed with modelled expectations.

But there is also the diminishing relative attractiveness of cat risk to consider, with institutional investors instead able to achieve a 6 percent risk-free return on government bonds, for example.

For the appeal of cat risk to return, there is a sense that the sector will have to not only show its ability to secure significant rate increases and improved terms and conditions, but for that to translate into one or two years of strong reported returns.

Until that happens and capital begins to really flow, the balance of the E&S property market is unlikely to shift back in favour of buyers.