Stock market yet to recognise Lloyd’s opportunity
Argenta’s Robert Flach highlights the attractive returns offered by London-listed specialty reinsurers.
The global reinsurance market is experiencing a sustained hard market, leading to an expectation that the share prices of London-listed specialty reinsurers would be increasing. In reality, they are quite low.
We understand this level of pricing indicates other factors at work, which are influencing the situation. Only three listed insurers are currently trading at Lloyd’s: Hiscox, Beazley and Lancashire. The former two are perhaps better known as Lloyd’s insurers, while Lancashire is a Bermudian reinsurer first, but with a sizeable – albeit minority – interest in Lloyd’s. As a small subset of the overall reinsurance market, these insurers find it challenging to secure valued and considered time with analysts and investors, as they often get put into the same sector as banks and financial stocks in London.
The deflated share price for listed Lloyd’s carriers like these seems puzzling in the midst of this current hard market – a complex situation with no easy explanation.
A review of the market indicates that most syndicates are showing strong business pipelines and profit forecasts, with a doubling of forecast results for the 2021 year for our clients over the past 12 months, and those for 2022 are already looking better than 2021. Despite the third-largest insurance loss ever in Hurricane Ian in 2022, we are expecting a strong return on capital, and we see no reason why this won’t continue into 2023 and 2024.
While it may appear that we’re ‘reporting history’ in the 2021 and 2022 years, it provides an important distinction in the way our clients participate in the returns of the market.
Whilst there is clear transparency on the current performance data of Lloyd’s syndicates, with all now required to report annual results on a GAAP basis, we continue to receive regular quarterly forecast updates, with final results being confirmed on a three-year basis. This means any profits will be distributed at this time, and not before.
The 2021 account will close at the end of 2023, and the 2022 account at the end of 2024. Consequently, any new member coming in for the 2024 account will not be exposed to anything that happened in 2023 or earlier, until those events have been properly assessed and reserved for.
Additionally, Lloyd’s relies on a process called reinsurance to close (RITC), which takes place after three years for each underwriting year. This means that when you stop underwriting any new risks, you will need to wait a further 24 months to close out all of your positions, before passing all your liabilities on to the successor investors in your syndicates in return for the RITC premium. In practice, successor investors are the same group from one year to the next, although this RITC process gives an exit option for those who no longer want to provide support to the syndicate(s).
In contrast, for incoming investors – after you start underwriting, it will take three years before you are entitled to receive your first hit of underwriting profit, but, importantly, you have that insulation from earlier events. Anyone coming into the market for 2024 will not be exposed to a shortfall in results, for example for losses out of the war in Ukraine. Most syndicates are very conservative when setting RITC premiums, with shortfalls on older years being exceptionally rare.
To our knowledge there have been no reserve shortfalls for our clients this century, and despite the hard market, insurers are still wary of the problems of the past. There is evidence of an increase in claims activity and claims developments for the market generally – most notably in the US and Bermuda, where reserving tends to be at a best estimate level, rather than best estimate plus management margin, which is more commonly used in the UK and by many Lloyd’s syndicates. The three UK-listed Lloyd’s insurers are well-reserved, holding reserve funds at a margin and at a surplus to best estimate, and therefore it is unsurprising that analysts are quite cautious on both reserving methods – particularly in light of continuing exposures to Covid-19 and the Ukraine conflict.
In summary, we see really attractive returns for our investors, which it seems the stock market is yet to recognise.
Robert Flach is managing director of Argenta Private Capital Ltd