Inside View - Convergence commands changes.

(From Reinsurance)

Byline: David Spiller is president of Guy Carpenter.

Convergence in financial markets continues to increase. Look no further for evidence than the increased activity in catastrophe bonds, which directly link investors to insurance risk. In 2005, total issuance was a record $2bn, a 75% increase over the $1.14bn of issuance in 2004. And this momentum has continued in 2006. In fact, based on our knowledge of deals completed this year and those in the pipeline, total new issues in 2006 could be double that of 2005.

In terms of direct investment in reinsurance ventures, following the record losses from Katrina, new capital raised for (re)insurance entities exceeded $20bn, $8.5bn of which went to new start-ups.

Hedge funds increased their presence in insurance markets in 2005, investing in start-up reinsurers and other insurance vehicles, or 'sidecars', which were brought to the market after the 2005 hurricanes. (A sidecar is a special-purpose vehicle in which third-party private investors, such as hedge funds, provide extra underwriting capacity to existing reinsurers for property/catastrophe retrocession and other short-tail lines of business.)

Investors were attracted to reinsurance because of the potential for high returns, generated by the hard market for property/catastrophe reinsurance. Guy Carpenter estimates show that rates for catastrophe covers at the top levels of programmes have nearly doubled from the pre-Katrina levels. The retro market has been even more severely hit, with benchmark rates now at triple the pre-Katrina level.

As the need for capital increases, both insurers and investors will need to speak a more common language regarding risk transfer. In the insurance world, for instance, the roles of suppliers and demanders of capacity are well understood.