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Large reinsurance programs come at a price, S&P warns

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S&P Global Ratings has warned Australian insurers the price of reinsurance programs is set to increase as climate change fuels an expected rise in the severity of claims from extreme weather-related natural catastrophes.

The industry should look into other options such as government-backed schemes or seek new capital resources from alternative investors to supplement its strategy of buying reinsurance to partially cushion peril losses, the ratings agency says.

Last summer’s catastrophic bushfire season in Australia has already led to claims in excess of $2.3 billion, while towards the end of September the combined bill from four recent natural disasters – bushfires, hailstorms, flooding and strong winds – passed $5.4 billion.

COVID-19, which has spawned disputes here and globally over what is or is not covered, has also added to the mounting pressure on insurers to find a solution for future communicable disease outbreaks.

“The ongoing availability of large reinsurance programs comes at a price,” S&P said. “With the pricing cycle on an upward trajectory and tightening underwriting terms, we believe reliance on reinsurance alone cannot overcome weather-related challenges.

“The industry's ability to establish additional solutions to natural perils and the pandemic will be key. It could do this through measures such as implementing government-backed schemes or seeking new capital resources from alternative investors.”

Reinsurance will remain an effective tool to manage catastrophe claims for Australian insurers, who are among the world’s biggest buyers of the protection programs.

However, S&P says insurers need to diversify their strategy to benefit.

“I don’t think there is one silver bullet to this,” S&P Director of Financial Services Craig Bennett told insuranceNEWS.com.au. “Reinsurance is definitely a material factor that reduces the risk, but there are other ways to reduce the risk as well.”

He says New Zealand’s Earthquake Commission is an example where “insurers don’t have to wear the complete exposure” to natural disasters.

Because Australian insurers are conscious of the climate change impact on extreme weather events, they may seek wider use of multiyear contracts or longer contract periods as a form of earnings protection.

S&P says some insurers have already signed on to reinsurance programs containing reinstatements, top-and-drop cover, and multiyear cover attributes.

“Without a doubt, reinsurance protection proved useful for them,” S&P said, adding that since 2008 the benefits from reinsurance have strengthened, providing 28% of cover for claims incurred in the year to June 30.