Goldman Sachs, a prominent player in the financial industry, has offered insights into the evolving landscape of reinsurance structures, which are seeing primary retentions shift higher, and the growing interest in alternative capital funding, signifying significant changes in the reinsurance market.
One key trend identified by Goldman Sachs is the shift towards higher primary retentions in reinsurance offerings. This change effectively creates a higher hurdle rate for losses to meet before reinsurers step in, reflecting a desire for more robust risk management strategies within the industry.
In recent years, there has been a surge of interest in alternative capital vehicles. These innovative financial instruments not only raise capital but also provide direct access to various risk-bearing profit and loss (P&L) streams.
Furthermore, they act as sources of income diversification and stabilising structures for reinsurers, often generating fees in the process.
Goldman Sachs’ analysis of the future of alternative capital funding suggests that, despite high interest rates in the broader financial market, third-party investors may still find attractive returns in other asset classes.
This situation could potentially slow the inflow of capital into the reinsurance industry, maintaining the supply and demand gap.
However, the data shows a different story when it comes to catastrophe bonds and insurance-linked securities (ILS). As of July 2023, the aggregate issuance of these instruments is well above historical averages, with an increase of approximately 53%. Compared to peak issuance periods in 2017 and 2021, 2023 is running approximately 7% higher.
This influx of capital into ILS is notable, considering that some investors have expressed hesitancy due to concerns about trapped capital. Trapped capital can limit the ability to redeploy funds into new issuances or different asset classes if it becomes locked in a loss-bearing bond.
Despite supply and demand imbalances and ongoing challenges posed by weather-sensitive events, Goldman Sachs anticipates an increase in the supply of catastrophe bonds. This increase is expected to come with significantly higher pricing.
Investors are drawn to the floating rate nature of these bonds and are also taking into account El Niño’s influence on shifting weather patterns, which generally results in a more benign hurricane season. This is despite overall consensus indicating a ‘near-normal’ season, as the effects of El Niño are offset by above-average sea temperatures.
