Has Axa’s XL Re dilemma finally been put to rest?

Since the close of Axa’s $15.3bn acquisition of XL Group in 2018, the ownership of its reinsurance arm XL Re has been in question.

From the first day of ownership, its new owner set about de-risking the business by reducing cat exposures and aggregate limits.

Investors – and even management – questioned how appropriate volatile and unpredictable earnings were to the European insurance powerhouse, especially at a time of heightened cat losses and concerns over climate change impact.

Axa’s (temporarily) lagging share price probably didn’t help these pressures. At the time, the overall deal stunned shareholders because they had been steered to expect only modest M&A and more capital returns. Instead, they woke up on 2 March 2018 to discover Axa had become embroiled in a Morgan Stanley-run auction for an expensive Bermudian (re)insurer and had outbid its rivals including Allianz to win the prize.

On the last trading day before the deal was announced, shares in Axa closed at €25.05. Two years later – in the immediate aftermath of the first coronavirus shock – they had halved in value (see chart).

There was little surprise then that Axa put XL Re up for sale. In 2020, this publication reported that after being rebuffed by Scor, French mutual heavyweight Covéa had entered talks to acquire the business. The discussions eventually broke down and – a year later – Covéa acquired PartnerRe instead.

But much has happened since then. First, Axa’s share price and performance has improved strongly. Its stock closed on Friday (4 August) at €27.45. Group CEO Thomas Burberl is regarded by investors as having adeptly steered the global insurer through the pandemic and it is now well-placed to capitalise on firmer P&C market conditions in a higher interest rate environment.

Equally, XL Re’s performance is much improved. The first half of 2022 was heavily cat impacted but the unit nonetheless posted a combined ratio of 94.8 percent. This year – we discovered last week – it has fallen to a mere 80.8 percent (revenues were also down to €1.12bn from €1.45bn in H1 2022 as cat de-risking continued).

Speaking last week, Buberl welcomed the improved results: “We are successful with the turnaround strategy. For over two years now we have reduced the natural catastrophe exposure by 35 percent each year. Last year the reduction was 40 percent.”

So, does this mean Axa may have had a change of heart regarding XL Re’s potential divestment? Not so, according to a report from Reuters that once again suggested speculation had returned about a potential sale or IPO of the reinsurance arm.

However, management’s commentary last week suggested nothing was immediate. While it is true that when questioned whether Axa would entertain a sale of the reinsurance unit, Buberl did not rule it out, he was nonetheless much more positive on its trajectory than before.

“The model is working, and we are continuing this journey, making sure that we are remaining on this lower exposure to natural catastrophes,” he explained.

In a research note, Citi analyst James Shuck felt these comments meant a sale was “effectively ruled out”.

Next month is the reinsurance industry’s most important global event, the Monte Carlo Rendez-Vous. Speaking on the sidelines there last year, Axa XL CEO Scott Gunter provided strategic rationale for retaining the Axa XL Re business.

“Having the reinsurance unit provides us with strategic options, and gives us the opportunity to write business that we may not be able to access on the insurance side,” he said.

“One example is North American personal lines, which would require huge infrastructure to write on the insurance side. Having the reinsurance unit allows us to participate in that market without being in the market directly.”

Certainly, the expectations for prolonged hard market conditions should enable Axa XL Re to continue its performance improvement trajectory in upcoming reporting periods.

Axa – one of Europe’s largest insurance groups – has the scale and size to be opportunistic about which assets stay within the family.

We imagine it is still unlikely reinsurance will be a meaningful part of the group in, say, five to 10 years’ time. But in the short term, it would appear the divestment pressures are diminished and, as Gunter pointed out, there are also merits to ownership…