ILS capital dented & more costly after Covid-19, driving rates: RenRe

The cost of third-party or insurance-linked securities (ILS) capital has risen, while its supply has been dented by the Covid-19 pandemic, according to RenaissanceRe, the Bermuda-headquartered reinsurance company and third-party capital manager.

In raising its recent equity round that amounted to as much as $1.125 billion, RenaissanceRe highlighted the state of the market and implied that the cost of third-party capital has risen thanks to the outbreak of the coronavirus.

Interestingly, one of the uses of the capital RenRe has raised could be in launching new joint venture vehicles, something we understand the re/insurer fields a lot of inbound enquiries on from capital market institutions and pensions.

But capital to fund ILS vehicles no longer comes at quite the low-cost it did over the last few years, now that investors return requirements have risen due to the volatility created by the pandemic.

Which could make raising third-party capital for ILS structures more challenging for a time, something borne out in the reinsurance sidecar market right now, as well as evidenced in some recent catastrophe bond issues.

RenRe explained, “As the COVID-19 pandemic continues and continues to create volatility in the financial markets, it is likely that the strain on financial markets will increase.

“In addition, access to public capital markets and private, third-party capital may become unavailable or constrained, or more expensive than in recent periods, or contain more onerous terms and conditions.”

Investors looking at ILS structures are certainly more demanding now, something that had been moving for a while, but that has now changed significantly just in the last few months on the back of the pandemic.

Increased reinsurance pricing can help though, as it is allowing those deploying ILS capital to add greater emphasis on terms, tightening them and ensuring coverage is more predictable as a result, with the increased reinsurance and retrocession rates providing some leeway for negotiation now.

When pricing hardens it allows terms to be reigned in, where perhaps they have been loosened too far in recent years. Providing a lever for negotiation, to ensure that investors in ILS get the right mix of returns and certainty, or at last a clearer understanding of where their capital is deployed and what exactly it is exposed to.

RenRe sees a significant shift in rates since the pandemic.

“The global COVID-19 pandemic has had immense impacts on a global scale, including on the insurance and reinsurance industries, where it has contributed to an accelerating hard market across property, casualty and specialty lines,” RenRe said.

Adding, “We believe that mid-year renewals reflected tightening conditions as industry participants assess the broad impacts and ongoing uncertainties of the COVID-19 pandemic.

“As an organization, we believe that these market conditions have created significant opportunities in the lines of business that we write, and that we are well positioned to deploy capital in this environment to pursue superior returns for our shareholders.”

The acceleration in rates will help to offset some of the increase in costs (return requirements) of third-party capital, while also providing a buffering lever for negotiations on terms as well.

All of which means the market is right now in an opportune state for those able to raise third-party capital and to deploy it quickly, if the hurdle of more wary investors can be overcome.

While a wave of private equity interest is being seen in reinsurance right now, that too is coming with a higher cost attached.

Of course, one of the reasons third-party ILS capital in particular had already been increasing its return expectations prior to the pandemic outbreak, is that it had been dented by the catastrophe loss activity of recent years and remained so into 2020 due to continued trapped collateral issues.

RenRe believes ILS capital has now been dented further by the pandemic itself.

“The market has been impacted by a tightened supply of capital. Among other things, capital in the insurance-linked securities market, which we estimated had already declined to a degree over recent periods, has been further impacted by recent developments, further reducing supply, particularly in respect of certain regions and perils,” RenRe explained.

Which is potentially a key driver in the re/insurers desire to raise capital at this time, knowing that it has an opportunity to build more risk on its own balance-sheet, while also perhaps launching new third-party capital or joint-venture ILS vehicles to bring more third-party capital under its remit as well.

The upshot is that RenRe sees a significant opportunity for itself, to capitalise on the impacts to the broader ILS and reinsurance market, while also enabling itself as an even larger manager of third-party capital.

“We believe that the COVID-19 pandemic is accelerating the recent rate increases we have seen in many of the lines of business that we write,” the company said.

The rate momentum in reinsurance continued in June, RenRe said and it’s clear the company expects this trajectory will be sustained long enough for it to capitalise with its fresh capital raise and any more third-party capital it can collect from investors.