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Publish date: Ratings: Reinsurers Redux

Rates up, losses down.

Thursday marks the official end of the 2006 hurricane season and no news is good news. The collective sigh of relief from the residents along the Atlantic and Gulf coasts is surpassed only by the clinking of champagne flutes in the inner circles of the nation's reinsurance companies.

With not a single major storm making landfall and reinsurers recording strong third-quarter profits, has been adjusting its ratings accordingly. Seven domestic catastrophe reinsurers have been upgraded to a buy rating since Oct. 24. The most recent is Max Re, which was upgraded earlier this week.

Around this time last year, we had downgraded seven companies after insured losses spiked. Aon Ltd. estimates that Hurricanes Katrina, Rita and Wilma caused between $65 billion and $90 billion in insured losses.

The reinsurance industry responded by reducing capacity and hiking rates. All told, existing reinsurers reduced capacity by 30% to 50%, although new capital flowing into existing reinsurers, plus the addition of nine new players to the global market, made up the difference in all markets except in U.S. complex commercial properties, according to Aon. Rates in this U.S. line increased as much as 150%. Even in the other U.S. lines where capacity remained stable or actually increased, however, rates went up by 30% to 100%.

Bottom line? Reinsurers continue to benefit from all angles -- new capital inflows, increasing rates and lower losses.

Ten of the 13 domestic reinsurers we rate are now buys. They are:

Reinsurance Group of America

(RGA) - Get Reinsurance Group of America, Incorporated Report


Arch Capital

(ACGL) - Get Arch Capital Group Ltd. Report


Odyssey Re



Partner Re

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Everest Re

(RE) - Get Everest Re Group, Ltd. Report


Endurance Specialty



Platinum Underwriters






Renaissance Re

(RNR) - Get RenaissanceRe Holdings Ltd. Report


Max Re Capital



Two more reinsurers are rated "holds" --




Montpelier Re



The one stock with a sell rating is

Scottish Re



The two most exciting catastrophe reinsurers are Arch Capital and Odyssey Re. Arch, with the second-largest market cap in the sector, after Everest Re, has returned 22% year to date. Underwriting results for the first nine months of 2006 far outperformed those for the same period in 2005. Gross premiums written grew 14.8% year over year, and underwriting income grew 932.7%. The company's combined ratio -- a common industry metric measuring underwriting losses and loss expenses as a percentage of premium income -- fell to 86.3% from 98.9% year over year. We like that the company has diversified its business mix to minimize losses from natural catastrophes.

Odyssey Re is writing fewer premiums than last year, but at much higher margins. Gross written premiums for the first nine months of the year were down 15.6% compared to the same period last year, but the combined ratio was also down dramatically. Last year's third-quarter combined ratio was a whopping 145.7%, with 53.7% of that coming from catastrophe losses. But in the third quarter of 2006, its combined ratio fell to 95.8%, which included only 4.3% from catastrophic losses. We expect a further decline in the combined ratio through the end of the year.

Another positive note for this company is the 47.6% increase in cash flow for the first nine months of the year. Net cash flow from operations was $281.7 million for the year to date through September, compared with $190.9 million a year earlier.

Odyssey has returned 54% so far this year, but we still feel the stock has more room to rally since its price-to-earnings ratio of 16 is far below other peers, such as Transatlantic Holdings and Max Re.

Our rating criteria are based on the risk-adjusted performance of the individual stocks. We like consistent earnings growth, strong cash flow, strong return on invested capital, minimal price volatility and good solvency. In the case of the reinsurance sector, we see positive results in these key areas for nearly all stocks.

Melissa Gannon is director of insurance and bank ratings for Ratings, formerly Weiss Ratings, where she directs the operations of the company's insurance and bank ratings division.

In keeping with TSC?s Investment Policy, employees of Ratings with access to pre-publication ratings data must pre-clear any potential trade through the legal department, and are prohibited from trading any security that is the subject of an unpublished rating revision until the second business day after the rating is published.

While Gannon cannot provide investment advice or recommendations, she appreciates your feedback;

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