Insight and Intelligence on the London & International Insurance Markets 24 Apr 2018

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2033

  • Mark Geoghegan 17 April 2018
  • Albert Einstein is often said to have described compound interest as the greatest mathematical discovery of all time.

    Whether or not the balding, moustachioed genius really did say any such thing, the numbers speak very powerfully for themselves.

    If something grows at 15 percent a year it doubles in size in just under five years. That means it quadruples every 10 years and is eight times bigger after 15 years.

    Armed with such facts the latest Aon Benfield Reinsurance Market Outlook throws up an intriguing prospect.

    The global reinsurance broker's study tracks industry capital and the most recent tally shows that in dollar terms, capital at year-end 2017 grew 2 percent to $605bn.

    This happened despite a massive $136bn insured cat loss load, a total only pipped this millennium by 2011's revalued $139bn bill.

    Reinsurers sidestepped a capital crunch by taking only a one-third share of the big cats as cedant retentions and government schemes were relatively harder hit.

    Strong investment returns and dollar weakness against the euro also flattered the overall numbers.

    But the big headline figure for the news desk was the 9.8 percent, or $8bn, increase in alternative capital that provided the lion's share of the gain. This dwarfed the $2bn, or just 0.4 percent, increase to the traditional capital pot over the same period.

    Alternatives now account for just under 15 percent of the whole.

    The Aon Benfield data goes back over the last 11 years and a quick calculation of relative growth rates confirms that 2017 wasn't particularly out of the ordinary.

    Traditional capital has increased at a compound annual growth rate of 2.87 percent over that period.

    But in contrast, alternative capital has grown 16.24 percent a year for the past 11 years. This is to be expected - it is the new kid on the block and has been growing from a base of almost nil.

    Depending on your viewpoint, projecting these growth rates forwards is either fun or scary.

    In 10 years' time this makes alternative capital $400bn, or 37 percent of the whole.

    But in 15 years is when the real excitement happens.

    For at current growth rates alternative capital will then command 52 percent of the then $1.63tn reinsurance capital base.

    The intriguing prospect is that in 2033, "traditional" reinsurance capital won't be balance sheet capital at all. Balance sheet money will now be the minority "alternative".

    The new incumbent on the capital throne will be wearing a collateralised crown. ILS will have become the establishment and the embodiment of tradition.

    But Einstein would definitely have urged caution at this point. Yes, compounding is incredibly powerful, but compounding incorrect assumptions 15 years into the future is powerfully stupid.

    Currently limited to cat, with some excess mortality and a bit of longevity on top, securitisation and collateralisation have an awful lot of hurdles to jump if they are going to carry on compounding at over 16 percent from a starting point of $89bn.

    Surely once the last cat treaty is annihilated and the last legacy life and pensions book is backstopped the ILS crew will have to pause?

    Maybe not. There is already a lottery bond, and casualty has overcome its painfully slow start to blossom of late.

    Generali's innovative Horse transaction rightly scooped the innovation awards last year and Hudson Structured has forayed into workers' compensation. Meanwhile suites of industry loss warranties are now for sale in the equally fast-growth world of cyber insurance.

    But the most important ingredient is definitely still there in abundance.

    None of the original pioneers have left ILS. They are all still at it, striving to find new ways of putting new capital to work in the business of risk.

    In 2033 I will be perilously close to drawing whatever is left of my share of the UK state pension.

    Don't bet against all the other old traditionalists being put out to grass by then too.

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