Nephila owner Markel is currently working on a review of its operations after coming under activist shareholder pressure.
Recently, sister title Insurance Insider US argued that activist concerns over Markel’s PE investing activities (through its Markel Ventures brand) were misplaced, and that a better restructure of the firm would be to sell its reinsurance division as well as its ILS operations.
However, while both Markel’s reinsurance and insurance divisions have needed underwriting remediation, Insurance Insider ILS would argue that disposing wholesale of the reinsurance and ILS division is premised on a dividing line that can be bridged.
It wrote that Markel’s reinsurance business “has been a serial underperformer, and is disadvantaged by lacking a presence in the critical property cat market.”
The underperformance element – with Markel’s reinsurance division still posting combined ratio losses – is a distinct issue to address.
But Markel as a group is still participating in the cat treaty business, as it deploys indirectly, through Nephila.
This is what makes it an interesting test case for hybrid (re)insurers on allocating to reinsurance, and one that we would argue makes sense.
This unique separation does mean that Markel has less exposure to a line of business that has richly repaid reinsurers in the past two years – but it offers simplicity.
Remaining in reinsurance gives it the possibility of flexing capital allocations to the primary or treaty space as conditions warrant. The delegation of cat risk to ILS offers Markel the chance to maintain a cross-class participation in the reinsurance space so that it can compete effectively, but with catastrophe volatility effectively taken off balance sheet. It is important, however, to note the firm would be retaining significant tail risk associated with fronting.
It also brings in fee income, although the benefits of this stabilising source of income have been diluted by Markel’s missteps in buying in at the peak of the ILS market and buying Catco. But selling down now would only compound its timing error and remove it from a part of the market that is here to stay, long-term.
Finally, the separation of interests between Markel and Nephila also removes potential conflicts that could distract personnel on the Markel side.
On the Nephila side, it allows the firm to position itself when approaching investors as having the advantage of access to rated paper for distribution or leverage or liquidity to exit positions, alongside the independence of decision-making in building cat portfolios.
Separate but allied
Markel first withdrew to cede the cat treaty ground to Nephila in 2020.
It remains a unique example in this respect. Some reinsurers, including Axis, simply withdrew from the cat treaty market during its soft market years, where they saw the volatility as too great to manage for the associated payoff. For quota share-driven platforms, this means their ILS interests now shift correspondingly to casualty treaty, specialty treaty, or a share of the primary cat book only.
However, most of the leading reinsurer ILS platforms stuck with the cat business, given its huge role in treaty risk and more particularly within the ILS space.
But with these cat-active firms, a more typical third-party capital strategy is for reinsurers to put their third-party cat capacity behind or alongside their own, managing the division of business between their own balance sheet and third-party platforms.
To compete effectively for access to casualty treaty risk with that group, Markel needs to ensure that brokers and cedants still see the group as an aligned entity – that cat risks, whether Markel-fronted or Nephila-written, are viewed as a package deal with their relationship with Markel.
This may not currently be the case and would take a delicate balancing act to achieve while ensuring Nephila’s underwriting independence. However, the point that Markel is still supporting the cat market should be made to maximise its casualty presence. Likewise, in theory this should benefit Nephila on cat signings, even if it saw little role for ILS capital on long-tail risks.
That is because developing “holistic trading relationships”, in broker jargon, has always been a talking point and this is likely to become increasingly a focus as the market softens. As the balance of power swings to cedants and brokers, reinsurers will increasingly need to be able to trade across all lines to get a better showing on signings.
But the separation means that Markel faces fewer conflicts to manage, as it doesn’t have to serve a separate balance sheet with treaty risk alongside the Nephila investors.
Often, the stress points of sitting within a competing entity have been difficult for other reinsurer-owned managers to navigate. Pressures arise over access to risk and whether third-party capital has the same priority throughout the market cycle.
This provides a point of distinction for Nephila in going up against more traditional aligned-reinsurer ILS platforms to win mandates.
That said, there still will be some areas of overlap or potential competitive points between Markel and the ILS business. Nephila has sought to access primary cat business as well as treaty and this could create competition with Markel property underwriters, but it is a different ballpark than a combined treaty operation.
Timing across the market cycle
Keeping the reinsurance and ILS presence gives Markel optionality to time allocations to both markets depending on the rating cycle – timing the casualty allocation on its own account, and leaving third-party cat investors to do the same of their own accord.
Within its ILS business, admittedly to date Markel’s timing has been off.
Markel paid up $973mn for Nephila at the peak of the market and had to write off a lot of value associated with the now-folded Markel Catco.
With that said, it has also recouped $155mn from selling Volante – an MGA originally backed by Nephila – to Acrisure in 2022, and it made a $107mn gain on the $180mn sale of a majority stake in Velocity.
Markel retained a minority stake in Velocity, which recently sold to Ryan Specialty for $525mn consideration, although Markel has not yet disclosed its share of that final disposal.
Through these sales Markel has realised significant value from its investment in Nephila.
However, the forward earnings power it would have expected from the firm has translated into a challenging few years, as the impact of the 2017-2018 loss years played out through the market.
The ILS firm’s asset base has not recovered to the $12bn heights it reached in 2018-2019, at just $7bn at the start of 2025.
But it is now showing signs of recovery on the management fee side after a difficult couple of years, albeit partly due to trapped capital releases.
Nephila fee income has increased by around 17% over the past couple of years, to $128mn last year from $109mn in 2022, although it is 44% lower than its 2019 level.
With two strong years of returns across the industry in 2023-2024, now is the time that ILS firms have a better chance of prospering again with new long-term allocators.
Exiting the reinsurance/ILS franchise now would only compound the timing errors Markel made, by removing its access to a part of the risk transfer market that is here to stay long-term.