Leader in Catastrophe Reinsurance: RenaissanceRe (Initial Screen)

I have recently become obsessed with Reinsurance after having spent 100+ hours reading Buffet's AGM letters

RNR is one of the largest Bermuda based reinsurers that specializes in property and casualty (P&C) reinsurance. RNR primarily underwrites property and casualty reinsurance contracts, however they also have a nascent business of insurance linked securities (ILS) and other forms of alternative capital.

What is reinsurance?

• Reinsurance provides outsourced capital for primary carriers to utilize for underwriting

• E.g., AXA may want to retain the relationship with a given party and so they will continue to underwrite the policy, but the policy underwritten they may not want to hold reserves against, the risk may be too large or they are capital constrained

• In this instance they would go to the reinsurance market and a 3^rd party would enter into a ‘reinsurance treaty’ and take the risk onto their books and in exchange receive the premium that was originally underwritten

• Generally RNR is primarily used for catastrophe risk policies (windstorms, hurricanes, wildfires, etc.)

Insurance companies fundamentally only make money in two ways. One way is from the underwriting, i.e., if their combined ratio is less than 100% (claims + acquisition costs as a percentage of premiums received). The second way is from the returns generated from the investments that are made with the float (premiums received). Insurance is a commoditized and homogenous product, with competition in most cases only occurring on pricing.

However, RNR is primarily in the business of catastrophe insurance. While this too like other lines of insurance is fundamentally a commoditized product, it is a line which attracts much less capital. Climate change is a secular growth driver for property insurance and has been driving demand for capital in the sector. Climate change also makes accurately pricing risk harder in this sector (as old models for natural catastrophes became out of date), meaning that the edge for sophisticated players in the sector like RNR would get wider. This creates a winner-takes-most dynamic where the most capable underwriters would use their edge in risk-modelling to capture the most attractive returns in the sector. RNR is acknowledged market leader in natural catastrophe reinsurance, with extremely strong in-house cat modelling capabilities that put them far ahead of the vendor models many other insurers rely on, and a long track record of successfully driving book value growth. Unsophisticated capital is leaving the sector as it failed to secure good returns, while demand for reinsurance continued to increase.

Insurance market operates in cycles of ‘hard’ and ‘soft’ market. We are entering a new hardening market cycle. The previous hard market in P&C (property and casualty) was seen in 2010-2012. The 2010-2012 hardening cycle was driven by a lack of capital capacity. This cycle was short-lived and only lasted 2 years because after this period of time underwriters were able to rebalance their balance sheets and had enough capital to begin competing on rate again. The current cycle should last much longer as it is driven by underwriters as a collective either wanting more restrictive terms or higher pricing. This benefits RNR specifically as in this new hardening market, underwriting expertise is valued more than cheap access to capital. As mentioned before RNR is one of the most respected reinsurance underwriters given their investment into technology and their weather models which given them a competitive advantage.

ILS (Insurance Linked Securities):

RNR is unique in that they offer ILS investments to institutional investors. RNR is one of the first movers in the ILS space, and has multiple funds. Other reinsurers are not focused on the space. Fee income currently stands at $147m, up form $96.4m in 2019. The current 2rd party AUM for ILS stands at approx.. $6bn, making them the market leader. Hard for other insurance companies to enter this space given that RNR has operated these funds since early 2000s, and have vehicles for P&C, specialty and cat bonds. Furthermore RNR itself co-invests in these funds, and has $1bn of its own capital tied up and those shows external investors that RNR has skin in the game.

ILS market growth has slowed down partially due to the denominator effect with funds facing losses in bonds and stocks. Thus 1/1 renewal cycle was not as strong for ILS segment, but expectation of recovery to normalized growth. Investors are trying to find yield that is uncorrelated to the overall stock market/credit markets and ILS provides that. Also ILS is yet to grow as an asset class as currently there are only a handful of ULS fund buyers, but as it becomes more normalized there will be significant inflow of capital, and RNR would be the fund of choice given their underwriting and management expertise.

Currently fee income represents approx. 20% of their total net income.

Compounding/Management:

Gross premiums grew from $7.8bn to $9.2bn in 2022 and a 97.7% combined ratio was delivered for the core underwriting segment.

RNR currently trades at 1.9x price/book. Which seems expensive, but is in line with other reinsurers like Everest Re and Reinsurance group of America. This higher price/book has partially been driven by mark-to-market losses on HTM securities. Retained unrealized losses in HTM investments are now $342 million or about $7.78 per share. Management expects this to continue to accrete to par over time. However, when comparing to other insurers, RNR has this fee revenue stream which is very much unique to them. Were RNR to be valued as a specialty or fee based insurer, the p/b multiple can easily expand into the 2x-3x range (ACGL, PLMR as examples). Hinges on RNR’s ability to continue its underwriting performance and fee income growth.

Management is very compelling, and have historically been able to make the right decisions which have led to an immense compounding of value for shareholders since inception.

RNR is also very active in the M&A space, having recently acquired Validus RE from AIG. Historically all acquisitions RNR has made have been value accretive, and as part of initial screen will do more dd on Validus RE, specifically, but have a lot of faith in management.

Interview with Head of RNR Capital Partners (ILS business segment): “We are not trying to underwrite the most risk or have the largest ILS funds. We are strategically looking to deploy capital”. Aligns strongly with Buffet, and his core principle for insurance businesses, as highlighted in the case of national indemnity. Buffet was willing to underwrite less risk in soft markets, so as to not face losses later with CR>100% given poor underwriting practices. Management shares this understanding and are aligned with shareholders to deliver long-term value and not headline GWP (gross written premiums) figures, which is arguably driving force for other insurance companies.

CEO has been buying up stock recently. Picked up $2m worth of shares (market buy, not exercising of options) on May 26^th.

In terms of popular stats such as underwriting ratio, how does RNR compare to their competitors?

I will continue to work on the insurance industry, in hopes of finding the next GEICO or Progressive. I will try to post weekly updates on RNR, and will also shortly be uploading my excess returns model for RNR, as traditional DCFs cannot be used to value FIGs.