For the past 10 years, most Bermuda companies have outperformed the Standard & Poor’s (S&P) 500 in generating shareholder value. The Guy Carpenter Bermuda Reinsurance Composite has shown considerable book value and dividend growth. This financial performance has been driven substantially by Bermuda’s low tax rate, experienced executives and friendly regulatory regime.
Bermuda faces the challenges of prosperity in 2008. The good fortune of low catastrophe losses in 2006 and 2007 has caused balance sheets to swell, but the opportunities to earn the outsized returns desired by investors have nearly vanished. For the coming year, it is almost inevitable that the profit rate of Bermudian companies will decline.
At 18.4 percent in 2007, the Guy Carpenter Bermuda Composite’s return on equity (ROE) is enviable compared to most investment opportunities in today’s economy. Retained earnings increased companies’ capital by 14.2 percent in 2007, creating a high hurdle for the coming year. Insurers would need to increase earnings by at least that amount to maintain their current rates of return, a daunting proposition, given the softness in insurance and reinsurance markets. In 2007, gross written premiums for Bermuda companies grew at a modest pace of 5.1 percent.
Underwriting profits were strong for the Bermuda Composite in 2007, with the combined ratio recording a record low of 84.9 percent. The low level of insured losses from catastrophes played a major role in delivering these strong results. But, it is unrealistic to expect a third benign catastrophe year in a row.
Sidecar use dropped, as rates receded from the record highs of the 2006 summer and discouraged the entry of new reinsurance capacity into the industry. Sidecars successfully served their purpose, having facilitated the flow of capital into and out of reinsurers without disrupting balance sheets, ultimately making it easier to manage supply. They may regain prominence in the event of high catastrophe losses and a hardening market.
The Bermuda Composite retention ratio increased in the early years of the decade, probably reflecting the hard market in those years. But, it has remained relatively flat since 2005. Shortages of retrocession capacity have been among the factors impacting the retention of premium.