Back to the weird and wonderful world of reinsurance – and natural cataclysms. I’ve been following the share price of London fund Catco fairly closely for some weeks now, starting with Hurricane Harvey. From this point on it seems that the news has progressively gone from bad to terrible, with a seemingly never-ending series of natural disasters.

Last night came news from rival reinsurance fund Blue Capital Alternative Income. It released an update – the latest NAV at 30 September NAV is c.$0.8227, equivalent to a 26% decline from $1.11 at 31 August. These losses are in large part because of Hurricane Irma, Hurricane Maria and two earthquakes in Mexico. According to a summary from analysts at Numis “the manager comments that actual loss may differ materially from the estimates which have been derived from the utilisation of catastrophe modelling, standard industry models, an in-depth review of in-force contracts and initial indications from clients and brokers. The August NAV also included a loss of 2.4% for Hurricane Harvey. As a result, the NAV is down 23.7% in the 2017 Ytd. The shares are down 14% this morning to $0.825, trading close to NAV.”

These numbers are much bigger than those from CatCo but they tell an important story – that reinsurance losses are beginning to really mount up. A great wall of money flooded into this specialist market over the last few years, pushing rates down – and risks up! We’re now seeing hard evidence of the increasingly fraught risk/return

We’re now seeing hard evidence of the increasingly fraught risk/return trade off. If investors are looking to make say a 10% average return every year, drawdowns of 20 to 30% in one year are simply too high – the mismatch between risk and reward is skewed the wrong way. Either these reinsurance entities have to substantially increase the upside element or find a way to reduce the downside. Considering the distinct possibility that losses from natural catastrophes will structurally increase over the next few decades (climate change, growing wealth in the developing world, increased property prices as asset price inflation takes hold), I can’t see the downside risks falling back anytime soon. That forces a fundamental change in the investment proposition – returns must drastically increase and that will result in substantially increased premiums. Crucially these increases will have to be very substantial which will be very painful for many ordinary policyholders, My guess is that rates might have to go so high that many will choose NOT to insure themselves against the risk. Crucially many places will become fundamentally uninsurable which will in turn force governments to step up and either pay compensation or provide pooled insurance schemes.

That forces a fundamental change in the investment proposition – returns must drastically increase and that will result in substantially increased premiums. Crucially these increases will have to be very substantial which will be very painful for many ordinary policyholders. My guess is that rates might have to go so high that many will choose NOT to insure themselves against the risk. Crucially many places in the equatorial regions will become fundamentally uninsurable which will in turn force governments to step up and either pay compensation or provide pooled insurance schemes.  The other much narrower implication is that the worst case numbers might be much, much worse than we all think . If that is the case we might see CatCo’s share push even lower.