NEW YORK (S&P Global Ratings) June 26, 2023--At the 39th Annual S&P Global Ratings Insurance Conference, the message from panelists was clear: The insurance industry remains well capitalized to withstand potential adverse market or economic developments. Our analysts and industry experts discussed both the risks and opportunities facing the sector.

Higher Interest Rates And Economic Uncertainty

Soft landing ahead?

Panelists and moderators discussed the industry's outlook amid what Anne Walsh, chief investment officer (CIO) of Guggenheim Partners Investment Management, called "the most telegraphed recession ever." While panelists disagreed whether the Federal Reserve would be able to engineer a soft landing, S&P Global Ratings believes a soft landing is most likely.

Higher rates benefit brokers and life insurers (eventually)...

Acrisure Holdings Inc. Co-Founder, Chairman, and CEO Greg Williams said macroeconomic risks such as higher inflation are tailwinds for the countercyclical broker industry. Meanwhile, higher interest rates will cause short-term pain for life insurers but long-term gain for those that survive, said Charles Lowrey, chairman and CEO of Prudential Financial Inc. As Silicon Valley Bank and Signature Bank recently learned, and as Lowrey warned, "you can be fine in the long run and dead in the short run."

Given industry regulation, panelists did not foresee any asset-liability mismatches such as those that contributed to the failure of Silicon Valley Bank. As banks pull back from lending following the first-quarter turmoil, CEO and CIO panelists see opportunities for life insurers.

Principal Financial Group Inc. Chairman, President, and CEO Daniel Houston also praised industry regulators for helping life insurers make good on the guarantees they issue. Customers "want to know you're there for the long term," he said. Brighthouse Financial President and CEO Eric Steigerwalt agreed, saying, "People count on us to be there. We want to be here forever to make sure we're there to pay off on our promises."

…But underwriters must maintain discipline

Asked whether higher interest rates would cause the return of cash flow underwriting, John Marchioni, president and CEO of property/casualty (P/C) writer Selective Insurance Group Inc., said he isn't seeing any signs yet. Cash flow underwriting was popular in the 1990s as an attempt to drum up more business by loosening underwriting standards and pricing products lower than needed to cover expected losses, with the expectation that these losses would be more than offset by investing the additional premiums to generate more investment income. W. Robert Berkley Jr., president and CEO of W.R. Berkley Corp., added that he hopes the industry has enough memory and discipline to avoid it.

On the reinsurance side, Kevin O'Donnell, president and CEO of RenaissanceRe Holdings Ltd., and Brian Young, president and CEO of Odyssey Group Holdings Inc., also hope not to see cash flow underwriting return. But they said some companies will be pressured to do it. Young highlighted that IFRS 17, as a discounted cash flow reporting system, could incentivize cash flow underwriting in non-U.S. markets, where O'Donnell pointed out such pressures tend to originate.

Harder Reinsurance Market Here to Stay

Reinsurance rates are up across the board, especially in the short-tail lines (property and property catastrophe). Rather than only being a response to loss trends, panelists said this harder market is driven by investors wanting to see a better return on their capital. This means the increases are more sustainable than usual, and despite higher reinsurance rates, demand from primary insurers appears resilient so far. Nevertheless, USAA President and CEO Wayne Peacock noted that primary insurers will see more volatility as reinsurers raise rates or lower capacity.

Since 2017, reinsurance profits have been curtailed by property catastrophe (cat) losses, but Odyssey CEO Young was optimistic. He dubbed this year, "the year of cat" and called it "probably the best cat market" he's ever seen. Elyse Greenspan, managing director at Wells Fargo, also said it wasn't just about pricing--reinsurers have made fundamental changes to their cat offering. On the other hand, the casualty side is starting to lose margin, and RenaissanceRe CEO O'Donnell said his company is moving aggressively out of traditional casualty in favor of specialty lines.

While our sector view on global reinsurance is negative, we believe the pricing and underwriting changes could bode well for reinsurers' profitability this year. If reinsurers maintain discipline and demonstrate the ability to sustainably earn their cost of capital, we could revise our sector view to stable.

Alternative Capital In The Spotlight

Private credit

Most CIO panelists agreed that insurers are in private credit to stay, while Chubb Group Executive Vice President (EVP) and CIO Timothy Boroughs questioned whether the yields were sustainable given economic trends. JPMorgan Senior Equity Research Analyst Jimmy Bhullar said the only reason he'd agree with skepticism around private credit would be its rapid growth. Aaron Sarfatti, chief risk officer (CRO) and chief strategy officer of Equitable Holdings Inc., warned that regulations haven't kept up with the shift to private credit.

Allan Levine, co-founder, chairman, and CEO of Global Atlantic Financial Group, was more sanguine. While there is meaningful capital in private credit, he said most of the shift occurred when interest rates were low and liquidity was high. Now, he said, "the paradigm has simply shifted". That said, Levine and Brighthouse Financial CEO Steigerwalt agreed that new capital, as long as it's responsible, is good for the industry.

S&P Global Ratings believes there is nothing inherently good or bad about private credit. We examine the nature of the assets and the risks they bring to the balance sheet regardless of how they are traded.

Offshore reinsurance vehicles

One panel focused on the growing presence of offshore reinsurance vehicles for annuity writers, particularly in Bermuda. Such vehicles have existed in P/C for over 15 years and are becoming more attractive both to other insurers, as a way to de-risk and access third-party capital, and to investors, given the risk-adjusted returns they offer.

Prudential CEO Lowrey said the shift offshore has been good so far, but the industry must self-police to protect customers and investors. SkyRidge Re CEO John Klein praised the Bermuda Monetary Authority's efforts to keep Bermudian regulations consistent with other regulations like EU regulations, for example.

Offshore reinsurance vehicles are not inherently positive or negative for our ratings. S&P Global Ratings assesses the primary insurer's track record and stand-alone capitalization, as well as the impact the vehicle has on our view of the insurer's business and financial risk.

A Divergence In Commercial Real Estate

Panelists agreed there is a slowdown coming in commercial real estate (CRE), but Global Atlantic CEO Levine and Principal Financial CEO Houston said it's a great asset to match the duration and liquidity profiles of life insurers. However, panelists expect CRE's performance to diverge, with Levine calling it "a little bit of a tale of two cities right now."

Panelists generally expect weakness in some cities, particularly downtowns, and certain subsectors such as office and office-dependent retail. To this point, Equitable's Sarfatti and Jonathan Porter, EVP and global CRO for Reinsurance Group of America Inc., stressed the importance of loan-level analysis.

Panelists overall were comfortable with the positions of their portfolios and Levine, Houston, and Steigerwalt agreed the theme was "patience, not panic." Steigerwalt said his company is using its "offensive and defensive" playbooks. While happy with its office portfolio, Brighthouse is not adding to it, in favor of more liquid, shorter-duration investments. F&G Annuities & Life Inc. CIO Leena Punjabi said F&G is about one-third less exposed to office than the average life peer. On the other hand, Houston was touring CRE properties last week, and CIOs Walsh and Boroughs likewise said they would be looking for opportunities.

The Industry Must Evolve

AI

Panelists across both days agreed there is a place for AI in the insurance business and Acrisure's Williams emphasized the industry's responsibility to "really lean in" and do more in tech. He said Acrisure's acquisition of AI company Tulco in 2020 has "transformed every aspect" of the business and is "adding durability and robustness" to human decisions.

P/C CEOs agreed, with Selective Insurance's Marchioni suggesting AI could be used as a "co-pilot" to support human work. Berkley added that AI will give the industry the opportunity to more quickly and effectively use data, but warned of challenges. USAA CEO Peacock also stressed the need to build a strong ecosystem to sustainably use AI.

S&P Global Ratings' Global Chief Economist Paul Gruenwald shared his views that AI might lead to economic displacement. Although technological changes can lead to productivity gains that cause the economic "pie" to grow, he said, it would be imperative to ensure anyone who was displaced is retrained and has a path forward to being "at least as well off as before the change."

Social inflation

Social inflation is the rising cost of insurance claims given increased litigation. And one factor contributing to social inflation is the rise in third-party litigation financing, which leads to more and lengthier litigation and expensive verdicts. These so-called "nuclear verdicts" are difficult to price and reserve for. Litigation finance also increases the frequency of mass torts--large-scale multi-defendant cases that are multi-year loss drivers for insurers.

Robert Reville, CEO, president, and co-founder of data analytics provider Praedicat Inc., said the casualty side of the business should use more forward-looking information on mass tort litigations. Nick Seminara, EVP and chief claim officer at The Travelers Cos. Inc., said companies have to be trial-ready. His firm prepares by gathering information on the lawyers and law firms active in third-party litigation financing, as well as using AI to predict which cases are most likely to get an attorney if they don't already have one.

Panelists also discussed the need for insurers to aggregate data to demonstrate the risks associated with third-party litigation financing to policymakers. The risks are not just to insurers, but to plaintiffs that can face extreme interest rates on the loans they receive from these firms, and potentially to society, as recent reports have shown that much of the financing comes from foreign sovereign wealth funds.

In the meantime, James Whittle, vice president and counsel for the American Property Casualty Insurance Assn., warned that "social inflation begets more social inflation" and that more litigation and expensive payouts could impact the cost of insurance. Liberty Mutual Group Inc. EVP and CRO Dan Hogan said social inflation is something the industry will have to monitor very closely over time. Spectrum Asset Management VP of Research Chad Stogel agreed, calling reserves "the number one risk" to the P/C industry.

Writer: Devon Reilly