Dedicated reinsurance capacity increased to $568 billion in 2021, driven by a nearly 11% increase from traditional reinsurance capacity providers.
However, AM Best predicts that total dedicated capital will fall after a decade of year-over-year increases, owing to reductions in traditional reinsurance capital.
Although many companies' underwriting returns have been close to break even in recent years, analysts note that capital levels have increased due to investment gains and low-cost debt financing.
However, due to macroeconomic challenges, most of these conditions have been reversed as of the beginning of 2022.
"Although AM Best expects capital and investment market headwinds to persist in 2022, dragging down traditional capital levels, some of these losses are likely to be offset by underwriting gains," said Dan Hofmeister, Senior Financial Analyst at AM Best.
"The lack of a strong correlation between underwriting and asset returns in the past may indicate relatively flat capital levels, but a repeat of a severe property catastrophe season in 2022 could prove detrimental to reinsurers."
According to AM Best's report, many reinsurers significantly reduced their property exposure during the last renewal cycle, and those still exposed to material amounts of multiyear reinsurance contracts or who did not manage risk exposures prudently could face material capital deterioration if they suffer underwriting losses in 2022, especially if combined with adverse investment market returns.
AM Best predicts a $40 billion, or 8.4%, reduction in traditional capital by the end of 2022.
However, AM Best notes that the pullback of traditional reinsurance in catastrophe-prone markets such as Florida has created opportunities for insurance-linked securities (ILS) funds.
Analysts note that by capitalizing on a lack of capacity, some ILS funds have been able to profit not only from significant price increases, but also from tighter terms and conditions.