Reinsurers boost natural catastrophe exposure despite rising costs – S&P

Global reinsurers are showing a growing appetite for natural catastrophe risks, according to recent insights from S&P Global Ratings.

During the January 2024 reinsurance renewals, 19 of the largest global reinsurers rated by S&P increased their exposure to natural catastrophes, with an average overall increase in risk exposure of 14%.

However, a smaller group of reinsurers opted to reduce their exposure. This shift comes amid favorable reinsurance pricing and improving net investment income in 2023 and 2024, which have provided reinsurers with opportunities to deploy capital and expand their property catastrophe business.

S&P Global Ratings noted that reinsurers’ strategies have varied in recent years due to the rising costs associated with natural catastrophes. In 2023, Swiss Re Institute estimated global insured losses from natural catastrophes at $108 billion, a figure above the long-term average for the insurance industry.

Despite this, higher attachment points and a pattern of frequent but midsize events in 2023 meant that primary insurers bore a larger share of the losses, particularly from severe convective storms in the US. Losses for the group of global reinsurers rated by S&P were within their budgeted natural catastrophe load.

S&P also highlighted several challenges for the industry, including claims inflation, US casualty claims, increasing climate variability, and financial market volatility. Nonetheless, S&P’s analysis suggests that global reinsurers’ strong capital adequacy and improved margins provide a buffer against significant shocks, such as those from natural catastrophes.

The reinsurance sector’s capitalization is unlikely to be severely impacted by a catastrophic event that could cause annual industrywide losses exceeding $250 billion. S&P calculates that the sector would remain capitalized above the 99.99% confidence level even after such an event.

P&C losses for the reinsurance sector

Property catastrophe losses have consistently met or exceeded budgets between 2017 and 2022, leading to necessary price corrections, according to S&P. The significant pricing increases in 2023, combined with lower loss experience that year, made property catastrophe business a key contributor to the reinsurance sector’s strong results and encouraged reinsurers to increase their exposure.

As of mid-2024, insured losses are tracking above the historical average, with notable events including severe convective storms in the US, an earthquake in Japan, and floods in the Middle East, China, Europe, and Brazil. Munich Re reported global natural catastrophe insured losses of $62 billion for the first six months of 2024, compared to its 10-year average of $37 billion.

Despite these higher losses, S&P Global Ratings forecasts that property catastrophe business will contribute approximately three percentage points to return on equity (ROE) on average across the group if natural catastrophe losses remain within budget.

The combined budget for natural catastrophe losses in 2024 across S&P’s sample group of global reinsurers is approximately $19.2 billion, up from $17.1 billion in 2023 and $15.5 billion in 2022. This budget suggests an industrywide insured loss for the year of about $95 billion, which aligns with the historical 10-year average.

S&P expects reinsurers to remain cautious even as they expand their exposure. The trend of maintaining high attachment points is likely to continue in response to high inflation and rising costs. Reinsurers are also expected to be selective in their exposure to higher frequency and midsize events while reducing quota share and aggregate cover offerings.

According to S&P, this approach has allowed reinsurers to reduce their loss share below the long-term estimate of 20% over the past few years.

Investment’s role in reinsurance

Investment returns have also played a crucial role in strengthening reinsurers’ buffers in 2024. S&P Global Ratings projects combined pretax profits across its sample group to reach approximately $45 billion in 2024, up from $30 billion in 2023, assuming investment margins remain in line with base-case assumptions and catastrophe losses do not exceed the $19.2 billion budgeted.

This projection suggests a combined buffer of about $64 billion before capital depletion would occur in a severe stress scenario. S&P also expects companies to take measures to protect capital in such scenarios, such as suspending share buybacks.

Capital adequacy is expected to remain resilient even in the face of significant loss events, according to S&P. Most reinsurers in the sample group would likely experience an earnings event rather than a capital event in a severe scenario.

S&P forecasts that 17 of the 19 reinsurers in its sample would sustain their capital adequacy if aggregate losses were to reach the one-in-50-year level in 2024, up from 15 in 2023. This resilience is attributed to reinsurers’ strong capital positions and disciplined approach to risk management.

S&P Global Ratings also observed that most reinsurers have increased their exposure to natural catastrophe risk in 2023 and 2024, driven by recent pricing corrections and higher attachment points. However, a few reinsurers have chosen to either reduce their exposure or maintain it at previous levels, often guided by long-term strategies aimed at diversifying business lines and reducing underwriting volatility.

The high cost of retrocession, coupled with constraints on retrocession capacity, has led some reinsurers to scale back their use of retrocession for tail risk. Nonetheless, alternative capital continues to be an essential source of capacity, particularly for large global reinsurers’ retro strategies.

While the demand for natural catastrophe cover remains high, S&P Global Ratings predicts that reinsurers will remain optimistic about pricing conditions. However, if pricing weakens, reinsurers’ appetite for increasing their natural catastrophe exposure could diminish.

A benign second half of 2024 could lead to pressure on reinsurers to alter terms, conditions, or rates, potentially prompting them to maintain a more disciplined approach.

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