Guy Carpenter’s Rick Hartmann, senior vice president, Treaty Broking, explains why – and how – captives are being increasingly used to navigate the property re/insurance market

In the face of hardening re/insurance market conditions, risk managers and large corporates have been increasingly exploring alternative risk transfer options when seeking property protection – especially for those with exposures at risk of catastrophic weather events.

As a result, organisations have been turning to captives for operational flexibility. To find out more, Captive Review spoke with Rick Hartmann, senior vice president of Treaty Broking and Captive Segment Sales leader for Guy Carpenter (a Marsh McLennan business).

Captive Review (CR): How popular are captives in the property re/insurance market, and to what extent has this been increasing in 2024?

Rick Hartmann (RH): In the last few years, given the pricing environment in the commercial insurance and reinsurance markets, large corporates and insurance carriers have been looking for alternative risk transfer and risk financing strategies. Against this backdrop, captives have been one of the primary vehicles used to retain margin in lieu of transferring both expected loss and margin to the traditional commercial insurance marketplace.

Throughout their history, captives have offered stability, pricing insulation, and greater control – that last point has particularly resonated with insurers and risk managers that have strong confidence in the expected loss of their underlying portfolios. Additionally, having the ability to access alternative capital providers in the form of the third-party reinsurers and insurance linked securities (ILS) markets enhances a risk manager’s ability to achieve the most competitive terms.

Additionally, we have seen corporations and insurers looking for operational flexibility. Captives provide a great way to ensure owners are maximising risk transfer strategies and not giving away all the economics (while at the same time managing their downside risks).

CR: What are the advantages of using a captive when purchasing property re/insurance?

RH: A particular advantage for large corporates is that a captive – as a risk-transfer vehicle – allows access to alternative capital providers. Generally, these companies would not have been able to directly access capital from traditional third-party reinsurers because corporates cannot access the ILS markets directly.

They need to have a captive involved in the transaction in order to enable them to transfer risk to those markets. Having a captive operational enables alternative risk financing options, and also lets them tap into alternative sources of capital. Additionally, captives can help insulate corporates from the kinds of pricing fluctuations often seen in commercial insurance and reinsurance.

CR: What is the state of the current property re/insurance market?

RH: This is a very timely question, having just come out of mid-year renewals season, where we observed a transitioning reinsurance market meeting demand in a dynamic trading environment. Despite significant insured large losses (losses in excess of $100 million), with our preliminary estimate for the first half of 2024 aggregated to over $51 billion and expected to increase, placements were overall completed with adequate capacity.

We observed global property catastrophe rates on a risk-adjusted basis that were either flat or down by mid to high single digits. Pricing movement remains heavily dependent on account specific factors, including portfolio composition and historical pricing movement.

CR: How have severe convective storms transformed how captives are used with property re/insurance? And what is your outlook, given recent moderating in the property-catastrophe space?

RH: Over the last few years, in the face of rising property-catastrophe reinsurance rates and increasing retentions, many Florida insurers have been turning to captives to counter these headwinds. This is particularly the case for layers below the Florida Hurricane Catastrophe Fund, where market pricing has historically been cost-prohibitive.

By having a captive in place, Florida insurers are able to cede risk to the captive as a vehicle to build up retained earnings and capture some of the economics previously ceded to reinsurers. This is simply because reinsurance pricing for those lower layers is not feasible on a long-term basis. Captives enable these carriers to take advantage of operational flexibility and, therefore, the ability to optimise their reinsurance programme.

CR: What appetite are you seeing for ILS in the captive space, specific to property?

RH: There continues to be a tremendous amount of activity in this sector. Referring to ILS, we most commonly are referencing catastrophe bonds, which may offer a more efficient form of capital supply than traditional re/insurance for corporates and risk managers. There is still significant investor interest in this, given it’s viewed as a non-correlated asset class. In fact, catastrophe bonds are experiencing a record start of the year, with 51 unique bonds totalling $12.2 billion in limit placed. With respect to appetite for ILS in the context of captives, captives continue to serve as risk transfer vehicles to the ILS market, which remains focused on property exposures.

These also allow for an easier storyline for investors. Risk types, generally, are natural catastrophe-focused, and most recently the ILS market has been utilised by large corporates to transfer tail catastrophe risk. The ILS market is another step removed from the pricing cycles of the traditional re/insurance market, which enables corporates to achieve greater diversification in sources of capacity.

CR: What is your outlook for the rest of 2024?

RH: Much of the outlook for the remainder of 2024 depends on weather activity in the North Atlantic, but we’re still seeing corporates and risk managers increasingly turn to captives – in particular to address continued pricing pressures in the traditional commercial insurance marketplace. These organisations want better control over their own operations and the ability to build up retained earnings.

We’re starting to see captives used as a prominent tool for transferring risk as well as retaining some of the margin and profitability in their underlying business. In my opinion, risk managers are still assessing the amount of risk in their captives. Having an established enterprise risk management framework or clear risk tolerances helps ensure that they are retaining an appropriate amount of risk.

Making sure that aligns with their overall risk appetite will be essential. We have seen a number of corporates looking for aggregate stoploss solutions to mitigate their downside risk and protect balance sheets. However, there is an important caveat to highlight. Captives can be a valuable solution, but if risk managers are looking to achieve some savings in a single year, captives may not necessarily be the most appropriate way to go.

To achieve your objectives, you have to be committed to the captive business model. There are upfront frictional costs and operating costs to be aware of, meaning captive owners need to be fully committed to the model in order to see the build-up of retained earnings.