reinsurance marketplace

ARIA Annual Meeting – August 7, 2007

Reinsurance Marketplace

Stephan L. ChristiansenConning Research & Consulting

Copyright © 2007 Conning Research & Consulting ARIA Annual Meeting–August 7, 2007 2

Enduring a changing environment.

Food sources decreasing.

Competition for food increasing.

Need for food increasing as dinos get bigger.

So keep that thought!

The Dinosaur’s Dilemma


Market Size and Trends

Performance Characteristics

Some Emerging Opportunities

The Reinsurance Environment:Setting the Stage


The U.S. Direct (Primary) Market ($ bns)Premiums vs. Cessions, Surplus vs. Recoverables

$0

$100

$200

$300

$400

$500

$600

2001 Premium 2005 Premium 2001 Surplus 2005 Surplus

UnauthorizedAuthorized

Non-U.S. AffiliatesPrimary

From 2001 to 2005, direct premiums have grown 34% to $485 billion, while cessions other than to non-US affiliates have stayed about even at about $61 billion.

Reinsurance recoverables have grown slightly, but have stayed at about 50% of surplus.

Source: A. M. Best, Conning Property-Casualty Forecast & Analysis By Line of Insurance


$0

$5

$10

$15

$20

$25

$30

$35

1999 2000 2001 2002 2003 2004 2005 2006E

-20%

-15%

-10%

-5%

0%

5%

10%

15%

20%

25%Other ReinsurersTop 10Return on Surplus

The U.S. Reinsurer UniverseProfessional Reinsurer Aggregate

From the standpoint of U.S. reinsurers, net premium volume has declined, business is becoming more concentrated, and returns have been volatile.

Total premium of U.S. reinsurers is $26 billion.

Source: Company Statutory Statements and Conning analysis


Global Reinsurance Market$140 Billion USD

Germany8%

United Kingdom

8%

Rest of World

4%

Rest of Europe

13%

Switzerland2%

France5%

Asia14%

Latin America4%

North America

42%

Source: Swiss Re Economic Research & Consulting

Globally, ceded reinsurance is about a $140 billion market (excluding life re).

North America represents about $58 billion.


ROE: Public Reinsurers vs. Other Financial Services

0%

5%

10%

15%

20%

25%

RE

P-C

LIF

E

Ins

Bro

k

Hea

lth

For

MC

Ban

k

MC

Ban

k

Inv

Bro

k

Ass

etM

gmt

CO

NG

L

Source: Cap IQ via Yahoo Finance April 2007

Aggregating reinsurer shares from the public market, in 2006, ROEs compared favorably with other financial services, including brokers and money center banks.


Conclusions

2006 was a good year for reinsurers

But the sector faces considerable volatility and low market growth

ROE at peak results in 2006 was only about equal to other financial services firms


Significant Evolutionary Forces

Some are Challenges

Some are Emerging Opportunities

The Reinsurer’s Dilemma

Enduring a changing environment.

Revenue sources decreasing.

Competition for revenue increasing.

Need for revenue increasing.

As reinsurers get bigger.


Feast and Famine: Market Cycles

Environmental Factors: Losses

Competitive Factors—

- Too much supply leads to price wars

- New entrants

- New competition from outside

Shrinking Demand

Loss Volatility

is a major factor in reinsurance volatility–

losses are predominantly excess-attaching and asymmetric to inflation or other forces.



Catastrophes

and other unexpected events

can change everything !


$0

$10

$20

$30

$40

$50

$60

$70

19

92

19

93

19

94

19

95

19

96

19

97

19

98

19

99

20

00

20

01

20

02

20

03

20

04

20

05

20

06

$ b

illio

ns

Hurricanes & Tropical Storms

Other Natural Cats

Manmade

Source: Property Claims Service

NorthridgeWTC

The events of 2004 and particularly 2005 have literally changed the scale of expected catastrophe losses.

Reinsurance costs have increased by several hundred percent in some exposed areas.

Primary pricing has not kept pace, leading to constraints on capacity.

Loss Volatility – Catastrophes:Natural, Manmade, Terrorism, Pandemics, Nanotechnology

Andrew Florida

KRW


Initial & Latest Estimated Accident-Year & Calendar-Year Loss Ratios, Total All Lines, Professional Reinsurer Aggregate

50%

60%

70%

80%

90%

100%

110%

120%

1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

Initial AY Latest AY Calendar-Year

Long-Tailed Loss Volatility Volatility of Losses and Loss Development

Source: Conning Property-Casualty Loss Reserve Analysis by Line of Insurance

Impact of casualty losses and loss development is another major factor in producing volatility of results.






- New entrants


Shrinking Demand

Competition

is a major factor in reinsurance volatility—

Both from existing players seeking growth, from new entrants, and from outside the reinsurance industry entirely.



While the changing environment may be challenge enough,

new competitors are entering and challenging traditional dominance.


Capital Buildup Outpaces Market GrowthU.S. Professional Reinsurer Aggregate

(excluding Berkshire Hathaway)

$0

$5

$10

$15

$20

$25

$30

$35

$40

$45

$50

1999 2000 2001 2002 2003 2004 2005 2006

$ bi

llion

sPremiums

Surplus

Source: Conning Property-Casualty Forecast & Analysis by Line of Insurance

Competition starts inside the sector.

Competition spurred by excess capital buildup.

Even with volatility and low returns, capital is building up faster than premium.


Pricing Volatility vs. PrimaryU.S. Non-Proportional Reinsurance

-20%

-10%

0%

10%

20%

30%

40%

19

80

19

82

19

84

19

86

19

88

19

90

19

92

19

94

19

96

19

98

20

00

20

02

20

04

20

06

Commercial Lines

Nonproportional Reinsurance

Premium volatility is a sign of changing prices and changing demand.

Source: Company Statutory Statements and Conning analysis


Re-emergence of the Winner’s Curse?Distribution of winning bid for different numbers of bidders

Each bid is normal(10,1)

0

0.01

0.02

0.03

0.04

0.05

0.06

0.07

0.08

7

7.2

7.4

7.6

7.8 8

8.2

8.4

8.6

8.8 9

9.2

9.4

9.6

9.8 10

10.2

10.4

10.6

10.8 11

11.2

11.4

11.6

11.8 12

12.2

12.4

12.6

12.8 13

x

PD

Fn

(x)

Source: Auction Theory and Risk Load, Chris Svendsgaard, Swiss Reinsurance Co.

Other things being equal, a softer market, with more competition for a risk, increases the probability that the “winner” will underprice the business.

Bias increases as the number of bidders increases.

Bias increases as the variance of bids increases—greatest for riskier lines and higher layers.


New Forms of Companies Forming, with Higher Risk/Return Characteristics

Source: PartnerRe

Risk

Re

turn

Cat Bonds

Big 2

Professional Reinsurers

Class of 2001Cat Specialists

Class of 2005

Sidecars

Pesky new entrants are changing the competitive landscape.

New companies and new forms of capital are emerging based on changing opportunities and access to capital.

Hedge Funds have become a new and potentially formidable entrant.


Regulation and Taxation

Growth of Bermuda—Bermuda’s Market Share of Net Reinsurance Premiums Written

0%

2%

4%

6%

8%

10%

12%

14%

1999 2000 2001 2002 2003 2004 2005 2006E

Bermuda is thriving in part as a more flexible location for innovation and capital efficiency.

Developing characteristics of an insurance cluster.

Source: Guy Carpenter and Swiss Re Economic Research & Consulting


Size and Diversification in Managing Large Losses – Natural Catastrophes

Source: Company data, Analyst Reports* Swiss Re claims estimate net of equalisation reserve release

Market Capitalization (USD)> 15bn 5 – 15bn < 5bn

USD m

0

1 000

2 000

3 000

4 000

5 000

0%

15%

30%

45%

60%

75%

Net claims estimate (before tax) as at Oct 2006

Net claims in % of shareholders' equity

Swiss Re*

151%

Average net claim

in % of shareholders'equity = 49%

Katrina, Rita and Wilma (KRW)

Impact of catastrophes as percentage of equity was very different on larger reinsurers compared to smaller specialty reinsurers,

but many of the latter raised additional capital– as much a $25 billion—

this time.


Emerging Catastrophe Bond MarketShort- and Long-Term Risk and Capital Support

Non-life ILS Bonds ($ in millions)

$0$1,000

$2,000$3,000$4,000

$5,000$6,000$7,000$8,000

$9,000$10,000

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

Outstanding

Issued


Catastrophe bonds and capital market solutions are getting increased attention and building, but still a small part of the market.






- New entrants


Shrinking Demand

Lower Demand

As primary companies retain more risk,

and as risk flees from the insurance market altogether…



Increasing competition

for a decreasing food supply.


Property-Casualty ForecastAggregated U.S. Industry

Built up from 16 Underlying Segments

-4%

-2%

0%

2%

4%

6%

8%

10%

12%

14%

16%

'94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08

Premium Growth

ROE

Source: Conning Property-Casualty Forecast & Analysis By Line of Insurance

At the primary insurer level,

our forecast shows continued strong performance on a combined ratio basis, with ROEs tailing off in 2006-2008 based on growth in capital and rising combined ratios.


Property-Casualty Capital Leverage

Premiums and Loss Reserves to Surplus

0.0

0.5

1.0

1.5

2.0

2.5

3.0

2002 2003 2004 2005 2006E 2007F 2008F

Reserves to Surplus

Premium to Surplus

Source: Conning Property-Casualty Forecast & Analysis By Line of Insurance

In the primary market, capital is building up.

Ratios of net premiums and loss reserves to surplus are declining as surplus increases.

Surplus is strong, not necessarily excessive, but accumulating faster than exposures and claims can drive premium.


Where We Go from Here

Tra

ditio

nal I

nsur

ers’

Mar

ket S

hare

(%

)

High FrequencyLow Severity

Moderate FrequencyModerate Severity

Low FrequencyHigh Severity

TraditionalInsurance

Claims service,loss prevention,fronting,captivemanagement

Loss prevention,risk analysis,

claim service,capital

management

Loss Spectrum

From a recent study on alternative markets,

Increasingly, insurers and reinsurers will occupy the middle-of-the road position between high-frequency/low-severity events that are most economically handled by self-insured retentions, and low-frequency/high-severity events that will be addressed by capital markets or government solutions.


Some Emerging Opportunities

Short- and long-term risk segmentation

Convergence of economic and regulatory theories of capital and risk

Changing capital markets to support different needs

Emerging importance of services to cope with change

Mathematical Risk vs Behavioral Risk

Increasingly, reinsurers will analyze and segment risk-taking based on the nature and capital intensity of the risk,

with an eye to both regulatory and economic capital implications.

Some risk can be more economically passed on to the capital markets.


Convergence of Regulatory Risk Capital

Economic/Internal View

Rating agencies

Solvency II (EU)

U.S. Solvency

IFRS

Note: Illustrative only; the lines are not representative of any specific case.

A wide variance in capital definitions from different sources

are ultimately converging

under a basis of principles of reserving, risk analysis, and capital definitions.


Emerging Value-Added Services

Risk and asset models, predictive models

Sarbanes-Oxley and Solvency II support

Underwriting and claims mitigation services

RiskTransfer

Financing Expertise Know-how

Transfer

Diversification,Nat cat cover

Capital strength Pricing, claimsmanagement

Risk & productexpertise


Reinsurers will compete on services that can improve the profitability of their clients, not just on capital and risk transfer solutions.


The Dinosaur’s Dilemma-- Adapt

New tools and new strategies for survival


Thank you !

Questions?

The Dinosaur’s Dilemma-- Evolve

ARIA Annual Meeting – August 7, 2007

CONNING RESEARCH & CONSULTING, INC. is a Hartford, CT based publisher and consulting firm with more than 40 years of industry experience.

Conning Research’s team of analysts bring a wealth of industry knowledge from their prior operating roles in insurance.

For more information on Conning Research & Consulting and its services, please call 888-707-1177 or visit www.conningresearch.com.

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