Rating Agencies Keep Reinsurers 'Stable'

Concerns cited, but despite Katrina, reinsurance sector getsgood report card

Monte Carlo

Despite the potentially record losses from Hurricane Katrina,two leading rating agencies still see the global reinsuranceindustry as stable--but some potential trouble spots remain.

The two financial watchdogs--Standard & Poor's andMoody's--assessed the state of the market here in Monte Carloduring the annual reinsurance "Rendez-vous."

In its assessment, S&P said Katrina losses are more unusualthan those of Sept. 11, 2001 and will certainly be greater, butdespite an overall softening commercial market, its reinsuranceoutlook remains stable.

After 9/11, "we were hearing sooner from companies what theirestimated losses were," Laline Carvalho, director with S&P inNew York, said at a press conference here. She noted thatcomplications of flooding from the levees breaking in New Orleanswill create more gray areas when interpreting claims.

In theory, she said, homeowners policies do not cover flooddamage, but insurers may be "under political pressure" to coversuch losses regardless of the cause.

S&P's stable view, the report said, is based on goodprospects for continued strong medium-term non-life underwritingperformance, as well as an expectation that the next cyclical lowin the market will be less severe than it's been historically,leading to a flattening of such swings.

Katrina's impact on ratings is expected to be confined to a"handful of reinsurers," the report found--an assessment based on amarketwide Katrina loss of up to $50 billion and on informationsupplied to S&P by various insurers companies.

Ms. Carvalho said that losses greater than $50 billion couldmean that more companies will have a loss of surplus and may beseeking to raise capital. Losses of this magnitude would trigger areassessment of reinsurer ratings, the agency said.

Also being tested with Hurricane Katrina is the effectiveness ofcompany catastrophe models, according to Rob Jones, S&P'smanaging director in London. "In six months we'll know howeffective the models are," he said.

Mr. Jones said that most primary insurers are projecting lossesfor Katrina based on models. "Nobody is working with real data atthis point," he said. "People are still trying to understand themagnitude of this event." Hurricane Katrina is a "unique set ofcircumstances" and is "not modelable from the past," he added.

The S&P report--"Global Reinsurance: Outlook Stable DespiteMarket Softening And Hurricane Katrina"--found that the globalnon-life reinsurance industry is entering a "critical phase" in itsdevelopment as it faces the key issue of whether the severity ofthe downturn of previous cycles can be avoided. S&P believesthe cycle is "here to stay" but that there is pressure on seniormanagement of reinsurers to maintain discipline.

The report found that encouraging factors within the currentenvironment include an increased use of sophisticated pricingtools, which will ensure that financial targets are reflected inpricing decisions, along with greater transparency.

Moody's Investors Service said it has maintained its stablerating outlook on the reinsurance industry, based on a favorablepricing environment and strong profits in recentyears--particularly in property business. Still, the rating agencyexpressed concerns.

Moody's mentioned persistent reserve weakness on U.S. casualtybusiness written during the soft market years of 1997-2001, as wellas catastrophe exposures.

In addition, Moody's said the reinsurance industry facespressure to maintain its underwriting discipline during thesoftening market, and faces uncertainty due to ongoing regulatoryinvestigations and possible termination or reduction in U.S.government terrorism coverage.

Moody's explains its outlook and provides comparative financialinformation on leading reinsurers in its "Global ReinsuranceIndustry Outlook," dated September 2005.

"The reinsurance outlook was raised to stable from negative inSeptember 2004, following a period of numerous downgrades in2001-2003," said Timour Boudkeev, a Moody's insurance analyst andauthor of the report. Since then, the number of downgrades has beensmall, driven by company-specific circumstances rather thanindustrywide forces, he noted.

"Ratings have stabilized at a perceptibly lower level--today,double-A and single-A ratings are the norm for thebetter-positioned firms," added Mr.Boudkeev.

The rating agency observed that the reinsurance industrycontinues to show good diversification across business segments,geographies and products, as well as increasingly sophisticatedcapital and risk management policies.

Moody's noted a strong pricing environment, which over the pastfew years has enabled reinsurers to bring their capitalization backin line with their current ratings through retained earnings.

"High earnings in recent years have enabled many players toquietly strengthen their balance sheets by increasing reserves forthe most problematic exposures, such as U.S. casualty lines and, toa lesser degree, asbestos and environmental," said Mr. Boudkeev. Anabsence of major catastrophe losses until Hurricane Katrina hitalso enabled reinsurers to strengthen balance sheets, Moody'ssaid.

While reinsurers readily handled extensive hurricane losses of2004, Hurricane Katrina may become the costliest natural disasterloss in history, in terms of economic and insured damages, Moody'ssaid, impacting carriers all the way up the chain, penetrating manyreinsurance layers.

Callout: (no mug):

"Nobody is working with real data at this point. People arestill trying to understand the magnitude of this event," warnsS&P.

Flag: Recap

Head: Moody's Warning Signs

Moody's September "Global Reinsurance Industry Outlook" alsohighlights concerns about the industry's ability to continue torestore and maintain its balance sheet strength given the softeningcommercial insurance pricing environment, legacy liabilities andunderreserving issues.

In particular, the report cites the following potential troublespots:

o Increasing evidence that casualty rates have passed theircyclical peak, making underwriting discipline increasinglyimportant to sustain profits in these lines.

o Little prospect of higher investment returns in the nearfuture even as reinsurers maintain ambitious return-on-equitytargets, typically in the mid-teens range, which Moody's believesmay lead to an increased risk appetite.

o Uncertainties about reserve adequacy remain, with severalleading reinsurers posting higher-than-expected adverse developmentover the past year.

To the extent that reinsurers continue to experience adversedevelopment on old business, it calls into question theprofitability of business written during the more recent hardmarket, Moody's said.

o Regulatory investigations into finite reinsurance andinappropriate business practices may result in downward ratingpressure on some groups, Moody's warned.