29 September 2023
Key Reinsurance Considerations for Q4 2023
Aviation reinsurance and retrocession markets continue to face a number of challenges, as we look ahead to the final quarter of 2023.
In addition to the perennial challenge of achieving rating adequacy across all parts of their books, the last two years has also seen reinsurers battling against rising fiscal and social inflationary pressures, heightened geopolitical tensions and deteriorating back year loss development.
The expected return to profitability for airlines as passenger numbers recover to pre-pandemic levels should spell good news for both insurance and reinsurance underwriters, but only if rating levels applying to the original business can be maintained at levels which support what many see as the required level of growth to provide for a sustainable premium level. Many direct underwriters are fearful that attritional loss costs alone will erode an overly significant proportion of an under developed premium income pot. This development, together with the culmination of higher retention levels and increased reinsurance costs, will inevitably place more pressure on direct underwriters as profitability margins become more tightly squeezed.
Underwriters are hopeful that the efforts shown by the insurance and reinsurance market throughout the past few difficult years will be remembered, particularly considering the claims paid out have far exceeded the total worldwide insurance, reinsurance and retrocession premium income in all three segments of the aviation (re)insurance market.
A key focus for the next quarter’s renewals and beyond is the interconnectivity between direct, reinsurance and retrocession markets. At the time of writing this article, direct markets have largely stalled in terms of their ability to achieve pricing adequacy due to an oversupply of available capacity, an enduring benign loss environment in relation to the COVID impact on flying activity and generally low loss ratios given the absence of any substantial loss activity. Whilst beneficial for direct clients (the end insured), many insurers see this differently, as the outcome of this is that some carriers will seek to expand and new markets may be enticed to enter. This has a direct impact on rates, which are continuing to soften - at a time of particular importance, given that more than two-thirds of airline business renews in the final quarter of the year.
Contrast this with the reinsurance market where Excess of Loss premium has increased more than three times since 2019 and retentions have become greater, typically to a minimum major risk original loss attachment level of circa USD250m. Capacity supporting Quota Share placements has also become both more selective and insistent that improvements in treaty terms and conditions are realised. Ceding commission levels have been a particular point of focus and the default position from Quota Share markets has been to pare commission levels back in an attempt to address profitability concerns.
While high double-digit rate adjustments that have been evident in the past year on Excess of Loss placements are not likely to continue into 2024, it is expected that rates will continue to increase, with the focus being more towards middle to top (catastrophe) layers. Our expectation is that rates will increase by as much as mid to high single digits on a risk-adjusted basis.
Retro paints a similar picture. Capacity is reducing following a number of prominent market retrenchments and exits, and pricing movement is expected to be similar to first tier XOL pricing for reinsurance, albeit with reduced limits available until such time as increased pricing attracts new capacity. Increased retrocessional costs similarly places more pressures on the numerous reinsurance markets who purchase retro cover, with the knock on effect being that these increasing costs gets passed further down the value chain.
Despite the changes in appetite and the rating increases that have been achieved within the reinsurance market it is clear that reinsurer expectations that the reinsurance/retro market conditions would force rating increases on the direct market are so far not being realised.
There is, however one major outstanding loss event seeking resolution within the aviation reinsurance market: Russia’s invasion of Ukraine, and subsequent claims in relation to around 400 Western-owned aircraft remaining in Russia, prompting a wave of litigation from aircraft lessors against their insurers on not only Hull War policies but also All Risks placements. As much as USD10 billion of disputed claims are currently filed with various courts including the UK, Ireland and USA. The claims are being contested by insurers on various grounds.
Despite the ongoing dispute relating to these claims, Dublin based AerCap recently reached a partial settlement with Russian state-owned insurance company NSK in relation to 17 jets and five engines. The settlement sees AerCap reduce its original claim, filed in June 2022, from USD3.5 billion to approximately USD2.75 billion. AerCap have said that settlement discussions are ongoing with respect to claims under the insurance policies of several other Russian airlines. The day after the settlement was announced, Lloyd’s CEO John Neal told Reuters the deal was "good news for us too, it means we can sit down and start to have the conversation about what is the claim". However, in recent weeks several aircraft lessors – including subsidiaries of Middle East leasing firm Dubai Aerospace Enterprise – have launched fresh claims against insurers in London, so we expect that this dispute and its uncertainties will continue to hang over the market for a while longer.
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Kevin Clouter
Senior Director, Client Relationship Management, Gallagher Re
Kevin_Clouter@gallagherre.com
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