Insurers face future reinsurance squeeze as Australian catastrophes hit home

The growing number and severity of natural catastrophes which have hit Australia in recent years has left insurers in danger of failing to access future reinsurance capacity rating agency Fitch has warned.

In the wake of the flooding and severe storms in south-east Queensland and New South Wales in recent weeks the rating agency has said while the immediate impact is manageable in the medium term there is likely to be problems ahead.

Fitch said the recent storms will be an earnings rather than their capital event, as a result of strong reinsurance programmes.

“Insurers’ robust earnings and capital headroom should ensure their ratings remain resilient to these effects,” It added.  “We expect net losses to primary insurers from the extreme weather in late February and early March 2022 to be much lower than the Insurance Council of Australia’s (ICA) current gross loss estimate of around A$2.5 billion due to high reinsurance recoveries.

“However, gross losses may rise further as the Bureau of Meteorology forecasts the ongoing La Nina condition to cause above median rainfall in 2Q22 for much of northern and eastern Australia. Insurers have received over 163,000 claims, according to the ICA, of which we believe most are in the property class.”

Fitch said most of the losses will be borne by Insurance Australia Group Limited (IAG) and Suncorp Group Limited which control over 50% of non-life premiums in Australia.

“The two insurers had already used a large portion of their retentions under aggregate reinsurance programmes in response to events leading up to the recent floods, which should allow them to cede losses to reinsurers faster,” warned Fitch. “QBE Insurance Group Limited will also be affected, albeit to a lesser extent, through its retail insurance operations.”

Looking to the future Fitch said the country’s insurers are likely to struggle to access reinsurance as the frequency and rising costs of events will see reinsurers reduce their appetite for the risks.

“Frequent hailstorms, floods and bushfires are a key feature of the Australian non-life insurance market,” added Fitch. “We estimate that higher-than-expected natural catastrophe costs added around 1.2pp to the combined ratios of IAG and Suncorp over the financial years from July 2018 to June 2021 compared with 0.5pp over FY16-FY18.”
It said IAG and Suncorp have both raised their natural hazard allowances as a result of the increased frequency and intensity of extreme weather events.

“Insurers typically set such allowances by combining their view of risk through modelled catastrophe losses with reinsurance programmes. Lately, insurers have placed more weight on recent events to reflect the changing weather patterns.”

However it added: “Higher modelled catastrophe losses and rising reinsurance costs in the face of increasingly frequent extreme weather events, coupled with reduced appetite from global reinsurers, pose risks to insurers’ credit profiles over the medium term.”

Higher net exposure due to frequent extreme weather events, changes to reinsurance structures, or reduced reinsurance capacity, could affect our assessment of insurers’ capital strength over the medium term, said the ratings firm.

“These could result in higher modelled probable maximum loss (PML) figures, which are a key input to Fitch’s Prism capital model. We do not expect a major change in gross PMLs due to recent floods, but changes to reinsurance structures due to higher pricing, especially for aggregate volatility cover, may push up net PML values.”
While price is an issue for the future Fitch said it believed global reinsurers will continue to provide sufficient capacity to the Australian market, as it helps diversify their global insurance portfolios.

“The federal government is also finalising a A$10 billion reinsurance pool for cyclones and related flood damage in Northern Australia, which should reduce the burden on insurers and help improve premium affordability,” it added.

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