Casualty in focus as concern over reserves and loss trends mounts

If the lead-up to 1 January 2023 renewals was dominated by dislocation in the property cat market, then the fall conference season this year has seen US casualty emerge as the major theme, as reinsurers and cedants jockey for position over shared concerns around loss cost trends and reserve deterioration.

Discussions and negotiations have not seen anything like the level of strain that played out last year in property cat, as shifting appetites and in some cases inadequate communication made price discovery highly challenging for brokers and buyers, sending the market into rock-hard territory.

But for all the civility of this year’s renewal build-up, the theme of US casualty concerns has risen to the top of the agenda against a backdrop of social inflation, litigation finance and nuclear verdicts that are often driving insurers to settle – and for higher amounts.

Talking to this publication at the CIAB Insurance Leadership Forum in Colorado Springs, one senior US reinsurance executive said: “It’s not the situation where it’s the dire property market of last year, but it’s absolutely a top concern, both from insurers and reinsurers.

“This is not escaping anyone. It is specific to people that had larger books or wrote certain business with larger limits. Companies have done a pivot to decrease their exposure and shrink the limits, but I personally don’t think shrinking limits alone solves the problem.”

They noted that while shortening of limits may mitigate losses for primary carriers, it could actually lead to a more significant impact for reinsurers.

When primary carriers had large limits exposed, there was a greater incentive to fight if a claim went to court. But in some cases insurers are now surrendering the much lower limits they have written to settle rather than risk a jury award.

For reinsurers, those limits still aggregate to a bigger hit, along with the pervasive impact of elevated severity and frequency of losses.

A swathe of soft market years from 2014 to 2019 are seeing adverse development emerge, with underwriting sources suggesting the deteriorating loss trends are also challenging confidence in even the 2020 and 2021 years written in hard market conditions.

Some major reinsurers have also highlighted signs that current year trend is outpacing rates, on top of deterioration coming through from soft market years.

And insurance carrier sources have pointed to the excess/umbrella market as an area of particular concern – including for large commercial business – with rates rehardening in response to significant deterioration of results.

Diverging views on trend

Sources are beginning to talk about a bifurcation in the reinsurance market based on views around loss trends.

“I think you have two camps in the marketplace,” said a senior executive at one of the larger global reinsurers.

“You have those [reinsurers] who believe the loss trend is 5 to 7 percent, and they view the US casualty market as the best ever, where while you’re still paying the losses of the past, the future looks fantastic.

“Then you have those in the other camp who believe that the loss trend is more like 12 to 15 percent, and therefore price adequacy is not there, and rates are not increasing fast enough. For that to make sense from a reinsurance perspective, cede commissions have to come down significantly,” they commented.

They added that their company is of the view that the true loss trend on US casualty is in that higher 12 to 15 percent range, with other continental Europeans agreeing.

Some other reinsurers – including Bermudians – have a more optimistic view, the European reinsurance executive suggested.

Another senior reinsurance executive told this publication their company’s strategy is to take a differentiated approach to clients, with a focus on underwriting the underwriter for US casualty risks.

“The first thing we look at is to what degree do the rate increases on the original book cover the loss trends we are both observing. We think loss inflation or social inflation is going up quite a lot, and rate increases are not always compensating adequately for that.

“And that leaves you two options as a reinsurer – if you’re convinced about [the underlying business] you can take more share, or less share if you’re not, and then you can discuss the cede and the commission,” they said.

The executive highlighted the difference between current market conditions and those seen historically, where previous hard markets had typically been driven by reinsurers.

In this case, the hard market that really kicked into gear in 2019 was led by insurers – most notably with the dramatic limit cutting and push for higher pricing led by AIG and Lloyd’s.

But broadly speaking, cede commissions on reinsurance quota shares initially remained high.

“When reinsurers realize what they have on their books they have to push for lower commissions or otherwise they can’t stay in.

“Generally speaking they have to push for lower commissions, which is not easy for the clients to swallow as they are now also under pressure with rates not keeping up with loss trends,” said the source.

The conflicting dynamics where reinsurers need to push down cede commissions to offset rising loss costs and cedants are facing that same deterioration as underlying rates also come under pressure is likely to be a cause of tension at the upcoming renewal, and those that follow in 2024.

“There will come a push for lower commissions from a client’s view, probably at the wrong time,” they continued.

Some have suggested that if reinsurers push too far on cede then some insurers may just reduce their overall cession and retain more net.

Others disagree, however, arguing that the deteriorating loss trends and pressure on capital models in other areas – such as the inflationary impact on cat – means insurers are, if anything, more reliant on reinsurance to offset the impact.

Chubb bellwether?

In an environment where buyers and sellers are assessing reinsurance market dynamics, data points can provide valuable insight into the trajectory of the market.

Late last month, The Insurer revealed that Chubb renewed a $550mn-plus premium excess casualty quota share at 1 August that featured a dramatic drop in ceding commission.

According to sources, the deal – which is understood to have carried a 34.5 percent expiring cede – was renewed with significant non-concurrencies, with “most markets” writing the deal at a 30.5 percent commission, or what amounted to a 4 point cut.

Sources said that two reinsurers wrote the deal with a 2 point cut in commission – or at a 32.5 percent cede – and at least one reinsurer wrote the deal with a 28.5 percent commission, which would amount to a 6 point reduction.

It is thought the specific portfolio in the underlying book was related to large account commercial umbrella business.

Market sources have been divided on whether the Chubb renewal should be viewed as a bellwether or more of an outlier in terms of the potential cede commission reductions reinsurers will push for in the coming year.

Reported movements in cede commissions elsewhere in US casualty treaty this year have been in the flat to down 2 points range.

It has been suggested that significant adverse development and challenging results were a determining factor in Chubb’s renewal outcome.

But significant adverse development is not likely to be a unique Chubb experience, and those concerns are broadly expected to be a factor in the upcoming renewals for a host of major casualty underwriters.

Sources have also suggested that past market behavior is likely to be a driver of how cedants are viewed by reinsurers, with those that have been more opportunistic buyers, or which have looked to increase cessions in attractive pricing conditions for the underlying business, likely to be treated more harshly at the renewal.

Senior reinsurance broking executives canvassed by this publication have sought to downplay the likelihood of major widespread cede commission reductions on quota shares.

Higher investment returns

One noted that reinsurers and insurers are making considerably higher investment returns on the float they hold on casualty deals as a result of the elevated interest rate environment.

But they also acknowledged that the patterns of reserve deterioration on the underlying business are real, and an increasing concern for insurers, especially in areas like umbrella/excess casualty.

Arguably a bigger bellwether for the upcoming renewals may be Swiss Re.

The reinsurance giant has been beset by unprofitable casualty underwriting results. And KBW analysts suggested last month that the reinsurance giant could be losing as much as $2bn a year on US casualty reinsurance.

Swiss Re posted a first-half combined ratio of 118.8 percent on its casualty reinsurance book for an underwriting loss of $953mn.

The reinsurer’s CFO John Dacey voiced his concerns around US liability trends during the group’s Q2 earnings call.

“Our view is that the mass tort system in the US is going to continue to be problematic for the insurance industry,” he said.

Dacey said Swiss Re’s H1 reserve strengthening was driven by US liability, US commercial motor bodily injury and professional lines.

The continental European giants are often key drivers of renewal dynamics because of the market share they wield. A need for further rehabilitation at Swiss Re – as well as public declarations of discipline by others such as Munich Re and Hannover Re – could set the tone of the renewal as reinsurers take a strong stance.