PwC Bermuda
David Gibbons of PwC discusses Bermuda’s ILS market; the challenges it faces and what’s on the horizon
How would you describe the current ILS market in Bermuda?
The insurance-linked securities market is going from strength to strength.
This market has evolved as investors experience with and hence comfort in, the insurance market growth. It started with the principal driver being reinsurers looking for additional capital, allowing for the creation of sidecars, and then it moved into investors who are looking to invest directly into the insurance market to get the diversity of exposure and better returns when interest rates were low and the equity market was volatile.
The market started with catastrophe (CAT) bonds products facilitated through the formation of special purpose insurers (SPIs) because that was something that investors related to. As investors became more sophisticated, the market moved into funds and investing directly in the formation of insurance companies that were issuing quota shares and ILW contacts for pure insurance risk. Now as investors’ experience and sophistication grows they have started to look to duration – originally they were all looking at one-year duration, but now they were looking at a longer duration.
This has driven the demand in run-off books for both property/casualty (P&C) and life insurance.
With higher insurance rates, falling interest rates and an increasingly volatile equity market environment all aspects of the ILS market appears back in play.
What trends are you seeing within ILS?
The most significant trend is investors showing an increased interest in life and run-off books which could potentially give significant returns over longer durations, such as 10, 15 or 20 years. This isn’t cannibalising the traditional shorter duration business either as it attracts a different type of investor.
How will a hardening market impact the ILS sector?
It will increase interest because as insurance and reinsurance pricing goes up, the ability to get returns for investors goes up. If you’re looking purely from the availability of capital perspective, capital coming into the market it is interesting from a reinsurer or sidecar perspective because as you’re increasing your rates – the question is do you get less business as a result, the answer is currently no because the entire market is hardening.
Therefore, there will be more interest from a reinsurer to increase its capacity to write business because it will be writing more profitable business.
On both sides, there’s going to be an increase in interest as the reinsurance market hardens.
What are the top three challenges in Bermuda’s ILS market and why?
Regulation is always going to be a challenge. Not just in Bermuda but globally because investors are sophisticated and continuing to demand different types of products as their needs shift.
The ILS market continues to innovate and therefore as a regulator, you continue to see new things rather than the same cookie-cutter products/structures.
There is a time that you need to give to the regulator so that they can understand the risks of these new products. When you’re an investor and living in the asset management space, you like to do things immediately but when you’re in the insurance space, you are more accustomed to the regulator needing to get comfortable and understand the business.
Thus, the biggest two challenges include the ingenuity of the new products and structures being written and the time it takes regulators to get comfortable with that.
The next biggest challenge is ensuring that the investors are fully educated as to the risks that they are investing in and how much of their capital is at stake, potentially all.
And ensuring that when you do have an insurable loss, there’s always a potential for a full loss event and all of your capital to be eroded. Thus, education is key so investors know what they are investing in and what the downside risk is.
Bermuda is a place where the insurance market and the investor market have been working together for a long time and are accustomed to speaking the same language, have the combined expertise to ensure both parties are putting together a viable product that’s good from both an insurance as well as an investment standpoint.
I think Bermuda is well suited there because we have expertise in both fields and a presence on the island so they can continue to build off on that. However, there can be a risk if both parties have an expectation or experience gap and there is no one to bridge the gap – that’s what creates a disconnect and quite a bit of risk.
How do you see the ILS landscape changing in Bermuda over the next five years?
The Bermuda ILS market will continue to grow unless there is a significant loss event which will affect the entire market and not just Bermuda. I believe that the investors have gotten a taste for the diversity that the investment in insurance companies give them and a taste for the returns.
Additionally, I think the growing Bermuda life and runoff markets provide more opportunities for investors looking for long-term options. Bermuda’s strategic advantage is the advanced market sophistication all of the players have and the ability to create, understand and regulate new products more efficiently than other domiciles.
