Few industries illustrate the tension between the forces of supply and demand as neatly as the insurance industry: locked in a perpetual cycle of fluctuating supply – or “capacity” – with a “soft” market during periods of excess capacity, characterised by lower pricing and broader policy coverage, and a “hard” market during periods of restricted capacity, characterised by higher pricing and narrower policy coverage.
And nowhere can the effects of this cycle be seen more clearly than in the global insurance and reinsurance centre of Bermuda. Over the past 35 years there have been five notable occasions when a soft market has transformed into a hard market: 1985, following restricted excess insurance capacity driven by massive US asbestos and pollution liabilities; 1992, following the devastation of Hurricane Andrew; 2001, following the 9/11 terrorist attacks; 2005, in the wake of Hurricanes Katrina, Rita and Wilma; and (so it would seem) 2020, following a series of major losses combined with underpricing and with COVID-19 marking the tipping point into a hard market.
On each prior occasion when the market has hardened, Bermuda has seen a substantial influx of capital and insurer and reinsurer startups, with the new entrants grouped together as the “Class of …”: ACE and XL in the “Class of 1985”; Renaissance Re and Partner Re amongst the “Class of 1992”; Axis and Allied World amongst the “Class of 2001”; and Hiscox and Amlin in the “Class of 2005”.
To the uninitiated it may seem counter-intuitive that the insurance industry should prosper on the back of a prolonged period of depressed pricing and high claims activity, with 2005 to 2020 being the longest soft market in living memory. This period saw the increased influence of “alternative” reinsurance capital in the form of index linked securities (ILS), industry loss warranties (ILWs), and catastrophe (or cat) bonds, products designed to facilitate targeted and finite term investing by third party investors, with Bermuda establishing itself as the leading domicile for alternative capital.
The growth of alternative capital as a source of reinsurance protection, combined with the continued presence of “traditional” reinsurance capacity, created a buyers’ market for reinsurance which in turn allowed insurers increased scope to reduce their own pricing as they attempted to maintain market share at a time of increased competition. This competition led to policy terms and conditions being relaxed and to an overall “insured-friendly” environment in which powerful global insurance brokers held sway. Despite the attempts of regulators to enforce underwriting and pricing discipline, it was only a matter of time (in the event, a long time) before the low pricing and broadened terms became unsustainable due to increased claim reserving and market exits by loss-stricken insurers. Although the impact of COVID-19 on the (re)insurance industry remains uncertain, the potential scale of the losses is such that substantial capital retention is required until there is greater certainty, locking up capital that could otherwise be used to back new underwriting and thus exacerbating the demands on capital.
With demand now outstripping supply, premiums have risen markedly, most notably for reinsurance but with an inevitable consequential impact on insurance pricing. For incumbent insurers, this is the time to make up for years of marginal underwriting results and to tighten policy terms and conditions. For new entrants with “clean” balance sheets, unburdened by the claims legacy of the prolonged soft market, it is a particularly inviting time to enter the market.
Has Bermuda retained its position as jurisdiction-of-choice for new insurance capital?
In 2019, as the market began to harden, speculation was rife about when and where an influx of capital would be seen. Would Bermuda be the principal beneficiary, as in the past, or had it lost its place as the jurisdiction of choice for startups?
By the summer of 2020 it was apparent that, once again, it was Bermuda to where the capital would flow, with, according to an estimate by PwC, US$12 to US$15 billion dollars of new capital being brought into the market through new entrants and capital raising by incumbents. Recent months have seen the launch of new insurers, capital raising by existing insurers, frenzied merger and acquisition activity, regular announcements of high-profile executives sponsoring new ventures and intense competition to recruit insurance talent.
Insurance Industry Pervades Society
No doubt there are a range of factors that favour Bermuda over other jurisdictions and the weight applied to individual factors will vary from company to company. However, the overarching factor is Bermuda’s unparalleled commitment to the insurance industry: there is no other place where the insurance industry pervades society as it does in Bermuda. Where else do school children list insurance underwriting, broking and actuarial science as top career choices? This commitment extends from the country’s political leaders, who speak the industry language and are accessible to prospective entrants, to Bermuda’s regulator (and, unlike elsewhere, there is only one to contend with), who can bring a new entrant to market faster than in any competing jurisdiction, and to the numerous expert service providers (managers, brokers, lawyers, accountants) who cater to the industry’s various needs.
There is also the “market” phenomenon: just as a casino operator may choose Las Vegas or a luxury clothing retailer may open in Bond Street, Bermuda is where the insurance customers are to be found, with all leading global (re)insurance brokers represented in the market. Such are the access-to-market advantages of Bermuda, that many US insurers operate in Bermuda whilst electing to pay US taxes, countering the perception that it is the absence of corporate and personal income taxes is the dominant attraction of Bermuda.
Class Of 2020: Impact On Bermuda’s Economy
At a time when Bermuda’s tourism industry has been decimated by the loss of visitors due to COVID-19, and when Bermuda’s domestic economy is also staggering from the effects, the continued success of the insurance industry is an obvious cause for cheer. But how far does it go to compensate for the challenges facing other sectors?
Whilst the headlines reporting billion dollar start-ups are gratifying, billions of dollars are not, of course, being pumped into Bermuda’s economy: instead such capital is used to support the underwriting of foreign risks with reserves being invested outside of Bermuda. Much has changed in the world since the “Class of 2005” arrived, most notably revolutionary technological innovations that facilitate communication, automate processes and enable the outsourcing of administrative functions to lower cost jurisdictions, developments that combine to reduce employment opportunities for the administrative and less skilled positions typically occupied by Bermudian workers. The prolonged soft market has provided an additional incentive for improving efficiencies with expense reduction initiatives being one of the few options for insurers to increase profitability during a period of depressed pricing.
In 2020, a specialist reinsurer (whether “traditional” or “alternative”) with a billion or more dollars of capital can operate with limited personnel, mostly highly-skilled professionals. Although a generation of Bermudian insurance professionals has emerged since 2005 – with more Bermudians occupying senior positions in the industry than ever before – inevitably many of the senior and highly skilled positions will be occupied by foreign guest workers. There is of course a positive “trickle down” effect as these – typically highly-paid – professionals spend their earnings in Bermuda. However, the insurance industry will never be able to replace the jobs lost by the many Bermudian hospitality workers and others left unemployed as a result of COVID-19.
Traditionally, Bermuda’s tourism and insurance industries have complemented each other: the tourists create a demand for facilities and amenities and an incentive for preserving Bermuda’s natural beauty and thus create an environment that adds to Bermuda’s attractiveness for capital owners and for mobile professionals to base themselves. The insurance industry in turn provides additional demand for the hospitality sector, increasing the range and quality of options for tourists and providing a valuable income stream from business visitors during periods when tourists are scarce.
The hope, of course, is that the trauma of 2020 will pass and that, on the back of mass vaccinations and increased travel mobility, Bermuda will see a resurgence in tourism when the high season begins in May 2021. If this happens, then Bermuda may see a period of much needed economic growth symbolised by the “Class of 2020” entrants.
Mark Chudleigh is the managing partner of Kennedys Bermuda. Having practised in London for 20 years, he maintains an international practice for clients in Bermuda, London, the United States, Asia and elsewhere. His practice focuses on dispute resolution and commercial litigation involving the insurance and financial services sectors. Mark Chudleigh’s practice also includes commercial/corporate litigation, insurance and reinsurance claims and disputes, insolvency and restructuring and trust matters.