Brokers make a comeback

Broker market reinsurers have traditionally gained market share against direct writers in hard markets and lost ground in soft ones. This time it's different, reinsurance brokers say, and they vow to hold on to the gains they have made in the latest hard market.

"We are taking business away from the direct writers," says Paul Karon, president of U.S. operations for reinsurance broker Benfield. "We have seen it in our firm. I'm assuming that the other big brokers are having a similar experience."

For their part, direct writers see recent gains in brokered market share as cyclical rather than permanent.

"What we see right now is the strong growth of brokered reinsurance. It clearly is driven by the cycle," says Thomas Holzheu, a senior economist with Swiss Re and editor of a recent study by the reinsurer on commercial insurance and reinsurance brokers. "On the other hand, there are strong direct writers that are also gaining market share," Holzheu says. "Some of the direct writers have withdrawn, or re-underwritten their book of business and lost market share due to that, and stronger-positioned direct writers gained market share."

"There is not a uniform story for all companies," Holzheu says.

Swiss Re is among the direct writers along with American Re, Employers Re and General Re. Leading U.S. broker market reinsurers include Transatlantic Reinsurance Co. and Everest Re, and the London and Bermuda markets are broker-driven. Among the top reinsurance brokers are Aon Re, Benfield, Guy Carpenter & Co. and Willis Re.

Direct writers long had a reputation as the biggest and the best, with balance sheets to match. In recent years, however, they have been scaling back on less attractive business, as brokered business gained market share, says Robert DeRose, assistant vice president at A.M. Best.

"The directs in the U.S., and in Europe as well, to some degree, they are retrenching," DeRose says. "Where they pulled back on capacity for whatever reason, it may have created opportunities for broker market companies, and the question is whether those opportunities are profitable, and only time will tell."

"The numbers don't necessarily tell everything," DeRose also says.

According to the Swiss Re study, 58.1 percent of reinsurance assumed by U.S. reinsurers was brokered in 2002. That is up from just under 55 percent in recent years, but down from a high above 60 percent in the mid-1990s.

"The theory is that it's cyclical and once the soft market returns, you'll start to see the broker market share decrease (in the United States). I actually think that may not be the case as the soft market returns," says Edmund (Dee) Megna, vice chairman of Guy Carpenter, a unit of Marsh & McLennan. "I'm not sure we're going to drop back five or 10 points again. I think the broker market share is just increasing."

Stripping out facultative business--deals where reinsurers retain the right to accept or reject individual risks offered by the ceding insurer--Megna says he believes that the brokered share of the U.S. market was above 60 percent for treaty business. Facultative business is an area where direct writers have an edge because of the underwriting force required, Holzheu says.

Among the forces driving a change in the market, brokers say, were damage to client relationships as direct writers took a hard line with customers following the Sept. 11 attacks; the growth of the Bermuda market; a heightened desire by ceding companies to have brokers as advocates and an opening up by major direct writers to broker business.

"I do believe there's been a paradigm shift since Sept. 11, and I think the direct writers have squandered a lot of good will ... and now new relationships have formed," Karon says. "There was almost a kind of until-death-do-us-part relationship with the direct writers ... where (cedents) perceived that when things got rough they would always be there for them."

The Sept. 11 attacks also came as the industry was emerging from one of the longest soft markets ever, which forced reinsurers to take a hard look at their books.

"Coming out of the soft market which was pretty extreme in its magnitude, there was a lot to be corrected and that was painful probably for both sides," Holzheu says. "The new companies didn't need to deal with that. From the beginning they only offered business at much more profitable conditions for them."

With insured losses estimated at $40 billion, the World Trade Center attacks wiped out billions of dollars in industry capital. In response, brokers, insurers and investors pumped billions back into the system, including about $9 billion for Bermuda start-ups, according to A.M. Best. That new Bermuda capacity, much of it provided by brokers, has helped them gain ground.

Among the new companies were Axis Specialty Ltd., backed by Marsh & McLennan; Endurance Specialty Insurance set up by Aon, and Montpelier Re Holdings sponsored by Benfield.

"What has shifted is probably more the supply side aspect of having new capacity coming into Bermuda, which is all brokered business, so of course we see broker reinsurers gaining market share due to these," Holzheu says. "You can't set up a new direct writer because there is a lot of long-term investment in client relations so the only way of entering the market in the short term is basically the broker segment."

The newer entrants also came in with unencumbered balance sheets at a time of higher prices. That new capacity has helped brokers gain market share against direct writers, and may help them keep it, they say.

"In terms of the directs and their ability to take market share back, I don't think the rise of Bermuda is a short-term thing," Benfield's Karon says.

Baggage-free balance sheets also helped Bermuda start-ups attract clients as established reinsurers suffered through ratings downgrades and reserve additions.

"Purchasers look through the ratings and look at the unencumbered balance sheets, and certainly for shorter-tail exposures felt very comfortable placing the risk with them," DeRose says. "They may have had more of a reservation placing some longer-term classes, because in a sense the business model of these companies hasn't been tested yet."

An eventual market shakeout of the new Bermuda companies is likely, Holzheu says, noting that consolidation had taken a toll among past waves of Bermuda start-ups, such as those formed after Hurricane Andrew in 1992.

"It was set up as opportunistic capacity ... and I think unless we have evidence otherwise, we should also believe that they will withdraw from the market, to some degree at least, if underwriting conditions don't look as attractive for them as they did at the time of the start-up" Holzheu says.

Along with new Bermuda capacity, brokers say that increased attention to services such as risk modeling, portfolio optimization, financial analysis, ratings consulting and liability analysis have helped them win clients.

"It's becoming very popular to talk about how the role of the broker has changed to the point where we're consultancies," Megna says. Another factor in the market is the establishing of brokered operations by direct writers.

"The direct companies understand that we've become so intertwined with our clients, that the need to deal with us is there now. What they have done, they have basically created their own brokered operations within their companies to deal with brokers," Megna says. In the late 1990s, for instance, American Re set up a broker market operation, and Employers Re bought broker reinsurer Kemper Re.

"We have good relationships with them. It's not like the old days where it was us versus them," Megna says. "It's totally changed."

Finally, brokers say they expect to hold on to their market share gains because of what they see as a loosening of relationships between direct writers and their clients, new Bermuda capacity and value-added services. "It's a good time to be a reinsurance broker," Karon says.

A CONCENTRATION OF POWER

When it comes to the global insurance broker
market, there's Marsh and Aon; and then there's
everyone else.

Marsh            31 percent
Aon              23 percent
Willis            7 percent
A.J. Gallagher    4 percent
Other            35 percent

Source: Swiss Re Economic Research & Consulting

Note: Table made from pie chart.

COPYRIGHT 2004 Axon Group
COPYRIGHT 2004 Gale Group