Back in the mid-1990s it was common wisdom in London’s insurance market to argue — semi-seriously — that what the infamously “soft”, that is to say cheap, reinsurance market needed to escape a period of low profitability was a big disaster. The argument was that such an event would shock the market into realising it needed to charge more for cover.
When two aircraft duly struck the twin towers of the World Trade Center a few years later, that cold-hearted prophecy rang in my ears. But for the insurance industry it did the trick.
After the initial $40bn hit, insurers reaped the rewards, pretty much as predicted. According to the Geneva Association think-tank, the cost of risk to businesses which had slumped by an unsustainable 42 per cent in the eight years before 2000 rebounded dramatically. By the end of 2001 it had risen by an estimated 15 per cent before leaping a further 30 per cent in 2002.
Another trend ensured that this was a shortlived benefit for insurers, however. Just as the streets around the former World Trade Center site were quickly swarming with street traders eager to profit from the flood of tourists that came to see the disaster zone, so the insurance market, which initially shrank as existing underwriters derisked, quickly became a magnet for new profit-hungry insurance capital.
Catastrophe bonds, conceived in the wake of 1992’s exceptionally destructive Hurricane Andrew, went steadily mainstream after 9/11. New Bermudian vehicles backed by hedge funds and other “alternative capital” sprang up. And a wall of new capital was put up by investors.
Between September 11 2001 and the end of that year alone, 40 insurers raised more than $20bn of fresh funds, according to the Geneva Association. But in this notoriously cyclical market, the glut of new money competing for returns soon undermined the very profitability that had looked so appealing.
For the best part of the last two decades there has been a “soft” market much like the one that preceded 9/11.
So what will be the event to shock the market back into sustainable pricing this time? Covid certainly caused a degree of financial pain, pushing some of the big names of the industry into the red. The Lloyd’s of London market lost nearly £1bn in 2020. Swiss Re racked up nearly $900mn of net losses.
But the more resonant impact has come — and will come — from a source more existential than 9/11 or Covid: the very ability of the planet to survive in the face of climate change.
This year’s January reinsurance renewals season — the time of the year when more than half the world’s contracts are negotiated — has been a boom time of price increases for reinsurers.
Brokers say premiums for certain kinds of cover, such as German flood risk or US wildfires, jumped between 50 and 100 per cent, following last year’s catastrophic events. According to the Swiss Re Institute, 2021’s insured natural catastrophe tally of $105bn was the fourth worst since 1970.
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It is not all about climate risk. Cyber underwriting is another area where prices have increased dramatically, because of high losses and the growing incidence of ransomware demands. Escalating court awards for casualty damages, especially in the US, are driving up premiums in that area too.
Adding to the upward pressure on prices has been the sudden jump in inflation. Rebuilding a house flattened by a storm can now cost a third more than a couple of years ago, as the disruptive effects of Covid have led to higher materials and labour costs.
Additional impetus has come from a shrinkage of underwriting capacity, brokers say. Several bad years had already prompted some of the newcomer providers of capital to reconsider whether the reinsurance business was really as attractive as it had looked 20 years ago. Once markets began pricing in central bank interest rate rises, a clutch of capital providers were happy to exchange the high risks and volatility of reinsurance underwriting for a decent yield in a more mainstream asset class.
They may have given up just as the pricing cycle was turning — though by doing so, and by removing competitive pressure, they will also have magnified the benefit for the underwriters that remain. Whether today’s higher prices will ensure the insurance industry can cope with the intensifying risks of the climate crisis is another question. A destructive attack on two skyscrapers was hard enough to recover from; a destructive attack on the global climate will be rather more challenging.
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patrick.jenkins@ft.com