WSIA ’23: with greater power comes greater responsibility

Record numbers of official delegates have descended on San Diego for the WSIA Annual Marketplace, and recent reports from ratings agencies and other commentators highlight the continued strong growth trajectory of a sector that is also broadly delivering bottom line performance.

In its annual report on the US surplus lines market last week, AM Best noted that there had been a fifth straight year of double-digit growth, taking direct premiums written (DPW) in 2022 to a record $98.5bn.

That may be shy of the $100bn+ some had predicted, but the strong growth trajectory reported by state surplus lines stamping offices in the first eight months of 2023 means that the sector is on course to top the $115bn mark this year, and maybe even push beyond $120bn.

Its share of the overall P&C market also continues to rise. In a separate report earlier this month, Fitch published figures showing that the E&S market represented nearly 9 percent of the total US P&C market last year, compared to just 5 percent only five years ago.

As a percentage of US commercial lines, the E&S market topped 20 percent for the first time in 2022, according data collated by AM Best.

It is not just top-line growth that E&S carriers are delivering, however.

The US domestic E&S market combined ratio of 91.1 percent beat the broader P&C combined ratio of 102.7 percent last year, again based on AM Best compiled data.

And Fitch forecasts that the E&S market will once again post an underwriting profit for 2023 and 2024.

A big driver of growth, of course, has been the continued pullback in certain areas of the P&C sector by admitted carriers. This year the trend has reached mainstream news, with the widespread retrenchment from cat-exposed property in certain states such as California by a large number of household names. This has created a coverage crisis that is likely to turn increasingly political ahead of an election year.

Responsibility to deliver solutions

The E&S market’s role has long been to take advantage of freedom of rate and form – along with the creativity that freedom provides – to bring solutions to distribution partners and ultimately to insureds that admitted carriers can’t.

With property arguably the hottest and most challenged area of the broader insurance market, it is incumbent upon wholesale brokers and E&S carriers to rise to the challenge and deliver for their retail clients.

Another area of responsibility for the sector is to ensure it maintains its standards and – in the bigger picture – does not attract unwarranted regulatory attention that could diminish the flexibility and creativity it enjoys in any way.

Vesttoo is the latest in this year’s trio of quite public missteps involving collateral or counterparty credit and security issues in the MGA and E&S sector that have consequences for the reputation of parties impacted, along with their due diligence and other controls.

The reaction has been positive in the main, but the focus on addressing any residual concerns must remain strong.

Growth runway

Industry practitioners such as RT Specialty CEO Tim Turner are confident that there is a long runway of growth remaining for the E&S sector as it continues to benefit from the shift of business away from admitted carriers.

That means for another likely bullish atmosphere in the halls of the San Diego hotels hosting this year’s event.

It is imperative that complacency doesn’t set in, and that the E&S market and the wholesale distributors that feed it ensure their focus is on responsible growth and staying true to the sector’s raison d'être.

At E&S Insurer, we visited these themes and several others we expect to feature in conversations during the WSIA Annual Marketplace.

We reprise that article in full, below. We’ll be bringing you coverage live from the event, so please visit the E&S Insurer website to keep up to date.

We wish all official delegates (and the league of lounge lizards) successful conferences…

P.S. And we apologize for misquoting Spider-Man!

WSIA ‘23: guarding the goose that laid the golden egg (Reprised)

With premium volume on course to go beyond $120bn this year, harder for longer pricing conditions in most lines and another record attendance expected at the upcoming WSIA Annual Marketplace, the E&S market appears to be in rude health.

But despite best ever market conditions, a sequence of reputational blows – including James Allen and Vesttoo – concerns around regulatory risk, signs of competition, squeezed margins from increased reinsurance costs and potential encroachment from retail broking giants are a reminder that there is no room for complacency.

With more than 7,000 official delegates already signed up for San Diego in two-and-a-half weeks time, organisers are unsurprisingly bullish about this year’s event and what it says about the health of the E&S market.

In an interview with E&S Insurer for this issue, WSIA executive director Brady Kelley suggested the number of attendees is testament to the strength and future of the wholesale specialty and surplus lines segment.

And the data backs up his assertion. After increasing by 24.1 percent to $63.3bn last year, the premium volume recorded by the 15 states with surplus lines stamping offices was up 15.9 percent in the first half of 2023 to $35.9bn.

The stamping office data is estimated to have represented around 64 percent of all non-life surplus lines premium in the US last year.

That suggests that the overall E&S market premium in 2022 was around $100bn.

AM Best’s annual state of the market report on the segment revealed that DPW had reached just shy of $100bn in 2022.

On its current trajectory, it is conceivable that the E&S market will reach $120bn in size this year, more than double where it was as recently as 2019, when the broad hard market truly got underway.

The E&S market has been outgrowing the broader P&C market for several years, which means it is eating into the market share of standard lines or admitted carriers. With that considerably larger scale there comes, arguably, heightened scrutiny and greater responsibility.

If the James Allen affair that came to light earlier this year at the time looked like an unfortunate mishap that could happen to anyone, the Trisura collateral issue and now the Vesttoo scandal have put collateral and counterparty risk under the spotlight, as well as potential lapses in due diligence.

Although not exclusively an E&S market problem, the various events have each created problems for the sector and brought unwanted headlines.

As we explore later in this article, the fallout is likely to be a topic of conversation at WSIA this year, as market participants address concerns raised and look to ensure the reputation of the sector is safeguarded.

But this is just one area of potential focus as delegates gather in San Diego.

As we discuss, there is a case to be made that the surplus lines sector is in danger of becoming a victim of its own success.

There are concerns in some quarters that the greater size and market share it holds – particularly in states where admitted carriers have retrenched – may bring unwanted attention from regulators.

Meanwhile, the giant wholesalers are seeing signs that retailers are increasingly attempting to find ways of recapturing some of the business that has been flooding into the E&S market.

Perhaps the biggest question is the most difficult to answer: how long will best-ever market conditions last?

Certainly there are few signs that momentum is easing when the E&S sector is viewed as a whole, even with the notable exception of classes such as public D&O.

Much has been said about the structural shift of business from the admitted to the non-admitted market. But the E&S sector is still viewed as a safety valve, with a cyclical element to the volume that flows into the wholesale channel.

Ahead of the WSIA Annual Marketplace 2023, E&S Insurer has drilled down on some of the big topics we believe will be up for discussion in San Diego. Our list is partly the product of canvassing senior executives in the sector. It is by no means exhaustive, and we would certainly be interested in your views on any absentees.

We start with E&S property in another highly active year for secondary perils…

Property, property, property

The challenges (and opportunities) presented by the E&S property market are nothing new. In fact, if we’d written this article in any one of the last few years, it is likely we would have talked about some of the same issues – frequency and severity of loss, imbalance of supply and demand, climate change concerns and valuations, and the rising cost implications for buyers.

This year, if anything, the crisis has deepened and widened from the perspective of insureds. After Hurricane Ian last Fall, the hard market for cat-exposed E&S property has accelerated. One of the big drivers is reinsurance, both its cost and availability. The lag from reinsurers imposing generational hard market conditions onto insurers' pricing means that E&S property has continued to harden as the year has gone on.

And after a first half that has seen record severe convective storm (SCS) losses, devastating and tragic wildfire events and the first tropical storm to strike California in 84 years, concerns about secondary perils and how to underwrite them are not going away any time soon.

There doesn’t appear to be any respite, and the feature of 2023 so far has arguably been the retrenchment by a mass of admitted writers from cat-prone states, especially where the regulatory and legislative environment is unfavourable.

That in theory should present more opportunity for E&S property underwriters. But there is no sign of large amounts of new capacity entering the fray – while the erstwhile MGA gorillas of the sector have not regained their strength. Throw in a new RMS hurricane model and there appears to be no end in sight to supply constraints.

We expect all these issues to be on the agenda in San Diego, especially around underwriting secondary perils, ensuring valuations are on track (potentially highlighted by the Hawaii wildfires), model changes, cost of reinsurance and the search for capacity.

Reinsurance availability and cost

This year has been the year when the tail began wagging the dog again. A key feature of the hard market in the broader US commercial insurance sector that began in 2019 was that it was not led by a hard reinsurance market – or significant capital erosion from a major loss event.

Instead, it was an insurer-led hard market, as AIG, Lloyd’s and others dramatically changed direction with underwriting actions that included a major shortening of limits and push for rate, after years of softening.

The E&S market was, of course, at the vanguard, and in some areas began its turn before the standard lines market shifted. For the last few years it has been the dog wagging the tail.

Now, though, that has turned around, and a step change in the reinsurance market – led by cat reinsurance – means that it is reinsurers and their behaviour that are proving to be a big driver of what is happening with pricing on the underlying business.

The availability of reinsurance has gone down – see the widespread upwards march of retentions in cat – and the cost has gone up. This is also being seen in longer-tail lines as cede commissions are pushed back down.

And in the excess-of-loss space, in the broadest sense, reinsurance is returning to its traditional role of balance sheet protection rather than earnings protection.

That has implications for the behaviour of insurers and we expect reinsurance to figure heavily in their rationale for pushing for more rate or at least holding the line in discussions with brokers during WSIA.

For full coverage of the recently concluded reinsurance Rendez-Vous in Monte Carlo, you can visit our dedicated #ReinsuranceMonth website.

Counterparty risk under the spotlight

From relative obscurity, Vesttoo has become a household name in the sector as the fallout from the discovery of allegedly fraudulent letters of credit supporting reinsurance transactions has spread.

The impact has been most notable so far at least in the MGA and programs space, largely in connection with some of the fronting carriers that have been facilitators of strong growth by providing a conduit to access reinsurance capacity.

The crossover between the programs and E&S markets means that wholesale brokers and underwriting platforms have been among those scrambling to work with their fronting carriers to find replacement reinsurance and collateral.

In isolation, it might be fair to view the Vesttoo affair as an unfortunate mishap – well-designed fraud can be very difficult to counter.

But coming after the James Allen phony paper scandal and Trisura’s reinsurance recoverables issue, it looks to be more of an emerging trend.

We expect the issues of counterparty credit, security and risk along with tightening controls and due diligence to be common points of discussion at WSIA. We also anticipate a flight to quality, with some wholesalers already taking affirmative action to move business and revisit relationships with some capacity providers.

It’s looking increasingly as if this worrying and emerging trend in 2023 is a by-product of the rapid growth in the programs and E&S market, and has in some instances been accompanied by a loosening of controls.

Regulatory risk

Another unwanted by-product of the rapid growth of the E&S market could be greater scrutiny by regulators, which would undoubtedly be to its long-term detriment.

As the sector surges well beyond $100bn of premium written, its relative share of the broader US P&C market continues to increase, as its growth outpaces that of the admitted market.

The trend for the surplus lines market to increase its overall share is well-established, even before the current hard market was set in train.

But as we note above, one of the biggest drivers of the record growth in the E&S market during the last few years has been the major retrenchment by admitted carriers. A key factor in that has been their inability to adjust price and terms to the level needed to keep ahead of loss costs – especially in areas like property.

In California, for example, the pullback and exit of some of the largest insurers in the US has been in response to an adverse regulatory and political climate, as well as loss experience.

The freedom of rate and form that surplus lines underwriters enjoy has ensured that insurance has been available for insureds, albeit at a cost.

But paradoxically, the scale to which the E&S market has grown means it is increasingly on the radar of regulators and legislators. Multiple senior sources have voiced their concerns that there could be a backlash from regulators in some states in response to price increases. The fear is that, with an election year looming, the cost of insurance – and the rise of “unregulated” surplus lines carriers – could be treated as a political football.

The flipside is that – as the strongly pro-industry actions of Ron DeSantis in Florida illustrate – no political hopeful wants an insurance crisis on their hands.

The topic, and any steps the E&S sector can take to lobby against interference, are likely to feature in high level conversations in San Diego next month.

MGAs as a competitive force

A decade or two ago it could be said that MGAs and program administrators were somewhat at the periphery of the E&S and wholesale sector.

But in 2023 the tangible evidence of the power they now wield cannot be ignored.

WSIA’s record attendance this year will be in part down to the increasing ranks of delegates from MGAs, MGUs, PAs and other delegated authority entities.

As the E&S market surges past $100bn of premium, it has been one of the key accelerants in the explosion of the MGA market, along with enablers such as reinsurance appetite, private equity capital, the hunger of underwriting talent for entrepreneurial opportunity, and the rise of the cohort of fronting carriers.

One senior industry source pointed to the direct threat to carriers posed by MGAs. Not only are they drawing talent from traditional insurers – already a scarce commodity – but they can also claim to be unbundling the services that carriers provide, typically at a lower cost.

The increasing presence of MGAs has arguably been most noticeable in casualty and professional liability, including D&O – where pricing has gone off the cliff for public company risks.

A senior source from a traditional carrier questioned whether MGAs are really examples of the entrepreneurial spirit of E&S or more of a threat to the market if they are fueled purely by growth.

“Why do reinsurers support these models?” they added.

The latter point may be increasingly challenged. Anecdotal evidence suggests that some of the legion of new MGA entrants are finding it tough to secure or renew reinsurance. Our sister publication Program Manager recently reported that Swiss Re – previously the biggest supporter of programs business – has significantly scaled back its portfolio. It is not alone, as a number of reinsurers look to deploy capacity directly behind carriers instead.

Other sources have questioned the impact of MGAs as a competitive source. They claim that new entrants have not been a meaningfully disruptive force and argue that for the E&S market to really shift from its current trajectory on pricing (acknowledging the exceptions of public D&O and perhaps cyber) would require one or more of the major carriers to reverse the strategy of limit shortening and return to aggressive pricing.

Nevertheless, we expect the role of MGAs in current market dynamics to be a theme at this year’s event.

From hard to soft – D&O concerns, but what’s next?

Into the second half of 2023 it has become increasingly clear that the E&S market is moving on multiple tracks when it comes to pricing conditions.

With property cat at the ultra-hard end of the spectrum, and perennial trouble spots such as transportation and habitational providing challenges for wholesale brokers, the attention is also on healthcare – a segment that has experienced eight years of loss ratios over 100, exacerbated by the Covid crisis.

Specialists in those segments at WSIA will doubtless be engaged in tough discussions as, on one side, they look to address profitability issues and, on the other, to find affordable capacity.

But at the opposite end of the spectrum is D&O, most notably for public companies, where pricing has gone off the cliff.

Some in the sector downplay the dramatic correction, suggesting that insurers and MGAs are not hyper competitive and rates are not in free-fall.

They argue that it is necessary to separate the impact of SPACs, de-SPACs and IPOs from what is happening elsewhere, with the sharp rise and then fall in those areas an anomaly that skews the bigger picture.

However, others are voicing concerns about what the current environment of rates in a “negative spiral” means for the long-term profitability for carriers writing the product.

With margins for carriers also being squeezed by reinsurers pushing down cedes, the question is when a floor will be found and some kind of equilibrium restored.

We explored this segment of the market in some depth in last month’s issue.

Other areas of pricing pressure include cyber, where the surging rate increases of the last couple of years have slowed considerably, even as there is no sign of the threat easing.

The trajectory of pricing and profitability outlook in these areas will surely be under scrutiny at WSIA, with delegates also looking for signs of softening in other lines.

Retail and wholesale ownership

After a blip – largely because of funding challenges in the higher interest rate environment – M&A activity among retailers, the clients of wholesale brokers, picked up meaningfully in the second quarter of 2023.

And a series of recent capital raises by some of the retail consolidators have provided headroom for them to continue on their acquisition path.

Nevertheless, there are a number of players in the aggregator space who remain challenged, and the potential for consolidation among the consolidators looks to be real.

For the larger wholesale brokers that have aligned their own models to meet the needs of ever larger and more consolidated retail businesses, any shift in the client base is closely followed. Areas like binding authority are viewed as having strong growth potential by wholesalers as they look to provide efficient placement solutions for their retail clients and the large portfolios of business they have aggregated.

At the same time though other emerging trends are creating some tensions and grey areas in the relationships between wholesalers and their retail clients.

One is the growing number of retail consolidators that have begun building their own wholesale arms – both in transactional broking and underwriting.

Some of this is fuelled by acquisitions they have made and a desire to integrate wholesale businesses they have bought as part of their retail consolidation strategy, as well as their own desire to create more product and market access for their own brokers.

More worryingly, perhaps, for the larger wholesalers that have grown to be dominant forces in the E&S market is an appetite by the biggest retailers to build or buy their own platforms to directly access surplus lines capacity.

Gallagher, of course, is well-established with its wholesaler RPS, and other top ten retailers such as Brown & Brown and Hub International have been actively building wholesale broking and program/MGA businesses, as have the likes of Risk Strategies and Acrisure.

There is also anecdotal evidence, though, that the global giants Aon and Marsh are eyeing a return to the wholesale space, almost two decades after divesting of their in-house wholesale arms in the aftermath of Spitzer. This prospect has raised disintermediation fears.

Another more perennial topic of conversation among wholesalers is the advantages – or otherwise – of independent wholesale brokers compared to those owned by retailers.

A recent Hales Report noted that organic growth at Ryan Specialty and Amwins has outstripped those at hybrid firms such as Truist Insurance Holdings, Gallagher and Brown & Brown.

That debate will continue; as will the shift in the relationship – and blurring of lines – between the wholesale and retail sector.

The talent question

The hard E&S market has seen a recruitment drive – at least at the wholesale brokers – the likes of which has not been witnessed in the sector before, as thousands have been drafted in in an attempt to meet the huge surge in submission flow through the channel.

Anyone attending WSIA in 2023 would be struck at the legions of 20- or 30-somethings making the circuit of speed-dating meetings around the Manchester Grand Hyatt and Marriott Marquis – and the après-scene in the Gaslamp Quarter.

There is no doubt that there has been a big shift in the demographic and the wholesale market has proved to be a big draw for young talent, attracted by the entrepreneurial and specialty nature of the business, and the buoyancy of a segment enjoying its best run ever.

There also appear to have been strides taken in the drive for greater diversity, equity and inclusion, and brokers, carriers – and the WSIA itself – must take credit for that.

But that’s not to say there is not a talent problem.

Seasoned industry executives will rightly point to the challenge of keeping young talent engaged and in the sector so that there is clear progression to fill what continues to be somewhat of a void between the more junior and senior ranks.

There is real concern when talking to CEOs in the sector about whether middle and upper management has enough natural successors in place.

The answer should be continued investment in training; demonstration of the opportunities for progression; and clear paths for financially rewarding success and entrepreneurship.

For the E&S sector to continue to flourish, this is critical. And we expect it will continue to be a hot topic.

AI and insurtech

Wind the clock back to pre-pandemic times and one of the hot topics at any insurance industry conference would have been the threat and opportunity in the face of an expected insurtech revolution.

After the very public deflation of the insurtech bubble, few expect the traditional broking and underwriting industry to be put out of business any time soon by hordes of upstarts from Silicon Valley.

A combination of slower-than-expected growth and financing problems has killed off several start-ups and led many others to impose big headcount reductions and other cost-cutting exercises.

Some would argue that this was inevitable – both because of the challenges of translating real technological innovation to an esoteric and heavily regulated sector, and the natural failure rate in any heavily VC-funded space.

But that’s not to say the importance of technological innovation is in any way diminished for an E&S sector that must continue to evolve and improve its underwriting and distribution capabilities.

Some of the best ideas of the insurtech boom will play a fundamental role in the way that businesses operate, and many participants in the space would put technology improvements high up in their list of priorities.

As technologies related to AI become more widespread in the economy at large, there will be valuable applications to improve areas such as underwriting and the experience of insurance buyers.

They also represent an emerging risk, of course, which will be closely monitored by underwriters as they insure businesses that are using AI in their own operations.

The insurtech explosion may have fizzled out, but technology will remain a key topic of conversation for the industry.