The news broken by our sister title Insurance Insider that Axis is working on a sale of Axis Re will throw a temporary spanner into the works the firm is undertaking to reset its ILS platform under new leadership and highlights some more general challenges facing the aligned ILS model in the near term.
Axis has not commented on the reports, but the initial question that would be facing the team is whether they would be hived off to the reinsurance acquirer and, if so, what that acquirer means for their business. Alternatively, would Axis want to retain an ILS capability, leaving them to distribute its ongoing primary portfolio to third-party capital?
The carrier has shared insurance and reinsurance risk with ILS partners in the past, but the ILS team reports into Axis Re CEO Steve Arora. This suggests the former option is more likely, especially as reinsurance risk is the business that is more often shared with ILS capital.
Obviously, M&A uncertainty can impact any ILS platform regardless of whether it is aligned, asset manager-owned or an independent outfit.
However, the broader issue that is thrown into focus by the Axis process, but which also applies to other aligned platforms in the market, is how to reconcile differing strategic objectives.
Axis is far from alone in retrenching from catastrophe reinsurance right now and in the past year. Other such reinsurers with an ILS franchise include Everest Re, Axa XL, Scor, and to some extent even RenaissanceRe, alongside others without a major ILS presence.
The question that must often be asked of them in investor presentations is: Why, when the parent ship is clearly signalling a view that the risk is not adequately priced for their balance sheets, can third parties be confident there is enough margin for a satisfactory return on their capital?
Offsetting tailwinds
With that said, some tailwinds are benefiting aligned managers right now.
Looking at the AuM numbers, while some aligned managers are retrenching, stagnating or seeing painfully slow growth, others are moving ahead. Alecta notably chose two sidecar managers for its entry to the ILS market this year, while RenRe recently launched vehicle Fontana.
The latter launch highlights one of these tailwinds: the trend for investors with existing ILS portfolios to seek out non-catastrophe risk. While some traditionally cat-oriented ILS managers are dabbling in this space as well, for longer-tail lines of business there must be a much greater chance for reinsurers with the balance sheet and historical expertise in this line to win the mandates.
It is also possible that some reinsurers could play successfully on climate change fears as a marketing tool, hyping up the greater breadth of their teams to emphasise their ability to control issues such as secondary peril exposure (even though many non-affiliated ILS firms have significant teams of talented scientists on board as well). The likes of Swiss Re, for so long a sleeping giant in the ILS field, have fleets of communications experts to highlight the output of their Sigma research teams, for example. This may allow them to suggest that employing many scientists and having in-house R&D is more valuable in managing climate risk.
Consolidation
More generally, M&A processes might also call into question what an acquirer wants to achieve with its ILS business.
We’re now almost 10 years past the point at which most reinsurers decided that if they couldn’t beat ILS rivals, they’d join them. Carriers heeded the prevailing logic, which was that they would derive a couple of major benefits from ILS platforms: stable fee income and the ability to boost their capacity beyond their standalone resources, or to flex net capacity down in softer markets (the final point being a difficult one to play strongly with third-party investors, as noted above).
Yet in 2022 we are at the point where most of the biggest aligned ILS platforms are acquired-former independents, still operating more like satellites than in-house servants of the parent company capital.
Outside a few examples, there are many reinsurers whose ILS franchise remains sub-$1bn and consists of a sidecar or two. This might still be enough to clear a decent profit when such platforms are staffed with a small team doing light structuring and investor relations, with the bulk of work done by the origination/analysis teams at the carrier itself.
But will more carriers make the call that if they haven’t scaled up, the fee income is simply not enough to move the needle? This seems likely, particularly given that in what is set to become a hardening market, the potential for arguments over equitable division of business may become more acute.
Again, this applies to non-aligned ILS firms too. Consolidation would make economic sense for those that remain sub-scale and may happen organically as investors vote with their feet in response to recent cat losses.
For the moment, the direction of change in the ILS market is still one of expansion, with launches, competition and fresh leadership teams being brought in.
All of this is welcome, but with the potential misalignment of strategic direction and investor appetite, and the pressure on expenses, it may not endure.
