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It’s tempting to view insurance pricing cycles as simply the natural consequence of supply and demand: Prices rise as capacity retreats and decline when the prospect of higher profits attracts it back, with little else changing.
As the hardening insurance market is now in its fifth year, though, some changes appear to be happening that will likely be permanent rather than temporary. That should not be a surprise.
Past hard markets have seen some dramatic, lasting shifts in the way commercial insurance is conducted. Famously, in the mid-1980s when the liability market dried up and the cover of Time magazine proclaimed “Sorry, America Your Insurance Has Been Canceled,” sharp minds in the sector got together with large corporate insurance buyers to build alternative excess liability insurance companies.
In the early 1990s, after Hurricane Andrew blew through the balance sheets of several reinsurers, eight new highly capitalized reinsurers were formed, and the modern Bermuda property cat market was born. Reinsurance was also a concern after the 9/11 terrorist attacks, so the federal government got into the business of backstopping the insurance sector and continues to do so.
It took a longer gestation period, but after Hurricane Katrina struck in 2005, the insurance-linked securities market finally came into its own, transforming the retrocessional reinsurance market and bringing previously untapped sources of capital into the hazard risk-bearing business.
This time around, changes appear to be less obvious, partly because the innovations of past hard markets strengthened the foundations of the business and also we don’t yet have the benefit of hindsight, but nonetheless things are moving.
For example, as we’ve reported in this and past issues, in addition to paying higher premiums, policyholders are having to take significantly higher retentions and are finding that they cannot buy all the coverage they need.
To address the problem, companies with captives are making far more extensive use of the alternative risk transfer vehicles to fund layers throughout their programs. Things can easily change, and captive owners can return to the commercial market as cycles change, but there seems to be a lasting shift in what insurers are prepared to offer.
Another alternative market that is being extended is the ILS sector, which has expanded beyond property risks and is now tentatively covering cyber liability exposures. If the efforts are successful a much larger amount of cyber capacity could become available, and insurers and reinsurers would finally be able to offer broad, substantive coverage for a wide range of cyber risks rather than the limited coverage that’s available today.
It’s too early to tell whether these or several other changes will have a lasting effect on the market, but it’s fair to say that when prices flatten or even fall, buyers’ expectations will have shifted and it’s the sellers that respond to those changes that will be the most successful.