Reinsurance Buyers Faced Midyear Capacity-Demand "Perfect Storm"

While capacity constraints combined with increased demand created challenging renewals for reinsurance buyers in June and July, most proved able to purchase desired coverage, an Aon report says.

"Reinsurance buyers faced a near-perfect storm in June and July, as capacity constraints collided with rising demand for reinsurance protection. Despite these challenges, the majority of insurers were ultimately able to satisfy their reinsurance needs," Aon says in its Reinsurance Market Dynamics: June and July 2022 Renewals report.

The Aon report, released June 29, 2022, notes that several years of above-average catastrophe claims preceded reinsurers' reduced appetite for catastrophe exposures at June and July renewals. "For the first time since the US hurricanes of 2004 and 2005, property natural catastrophe capacity contracted materially, and some reinsurers would not write certain risks—such as lower layers of reinsurance limit for Florida catastrophe risk—at any price," the report says.

Aon says that specialty reinsurance coverage also faced its most challenging renewal in a generation in June and July, because of the potential for large losses resulting from the Russia-Ukraine conflict.

At the same time, the casualty reinsurance market remained stable at midyear renewals, Aon says, though reinsurers' concerns over social inflation and emerging risks did contribute to renewal challenges.

Aon says that inflation and investment market volatility—along with elevated natural catastrophe losses—drove demand for higher reinsurance limits at midyear. That increased demand ran into capacity constraints, however, as reinsurers faced growing pressure from their investors to address earnings volatility and reduce catastrophe exposures.

June and July represent a significant property reinsurance renewal period around the world, the Aon report says, particularly for US natural catastrophe exposures.

Confronted by inflation-driven exposure growth and an increased frequency of secondary peril events, many insurers entered the renewal period looking for higher reinsurance limits. That increased demand was met with limited capacity for catastrophe exposures in the peak zones of Florida and Australia, Aon says. Reinsurers sought higher attachment points in programs, with lower layers seeing data-based client differentiation and requiring alternative market support to finalize coverage, according to the report.

In Florida, reinsurance capacity has become a "precious" commodity, Aon says, with a growing number of reinsurers withdrawing from the market. In such a market, buyer differentiation has proved critical, according to Aon.

While the casualty reinsurance market was stable at June and July renewals, conditions have grown more challenging as this year has gone on, Aon says. Reinsurers' growing concerns over social inflation and emerging risks should drive further development of data analytics in the casualty space, the report says.

Total reinsurance industry capital decreased in the first quarter of 2022 to $645 billion on March 31, a $30 billion reduction from the end of 2021, Aon says. That capital decrease was driven primarily by unrealized losses on bonds linked to rising interest rates, the report says.

Alternative reinsurance capital increased, however, to $97 billion, as investors sought diversification opportunities and higher margins in the face of financial market volatility. According to the report, demand for catastrophe bonds is currently greater than supply, as insurers and reinsurers are increasingly turning to alternative capital markets to supplement traditional reinsurance and maximize their placements in a challenging environment.

"2021 was a record issuance year for the catastrophe bond market, where a steady influx of new capital kept catastrophe bonds largely insulated from the rate hardening experienced in other parts of the reinsurance market," the Aon report says. "However, the first half of 2022 has been more challenging as insurance-linked securities (ILS) investors paused to re-evaluate their view of overall asset allocation during a period of geopolitical, macroeconomic, and financial markets volatility. ILS investors, which have endured higher catastrophe losses in recent years, have been more selective and pushed for improved structural terms and pricing."

Despite those market constraints, many insurers and reinsurers successfully closed ILS transactions within expectations, Aon says. And, looking ahead, the deal pipeline remains robust, with the catastrophe bond market on pace at midyear to match last year's record issuance.

"We expect the current uncertainty in the ILS market to be relatively short-lived, and that new investors and fresh capital will be attracted to the market, which continues to offer value and diversification throughout the financial markets cycle," the Aon report says.

Looking forward to upcoming renewals, the property reinsurance market may be approaching a true hard market, where overall demand isn't readily met by the market, Aon says.

"Inflation, economic and financial markets uncertainty, and climate change, will put insurer capital under increasing pressure, just as reinsurers retrench," the Aon report says. "Attracting new sources of capital to the market, combined with data-led portfolio differentiation, will be essential to meeting insurers' reinsurance needs going forward."

As the reinsurance market continues to change and become more challenging, reinsurers are becoming more selective about the risks they're willing to write, making buyer differentiation essential, Aon says. Anticipating reinsurer concerns is critical to acquiring needed coverage at desirable terms and conditions, according to the report.

"Capacity is becoming more constrained, but it is still possible to obtain strong levels of support and reap the benefits of reinsurance to build a more resilient world," the Aon report says.