In the little-known world of bond reinsurance, companies are increasingly moving beyond the maturing municipal insurance market, as their business becomes less and less dependent on premiums from primary insurers like MBIA Inc., Ambac Assurance Corp., Financial Security Assurance, and Financial Guaranty Insurance Co.
A key player in this rapidly evolving industry is Capital Re Corp., which recently marked its tenth year in business.
In those short years, its transformation has been dramatic. When Capital Re began operations in 1988, 94% of the premiums it wrote were municipal bond reinsurance. By the end of 1997 that figure had shrunk to 24%. During the same period, the firm's net income rose from $8.1 million to $70.1 million.
The primary market municipal bond insurers have acknowledged similar pressures to diversify - insuring asset-backed and international deals, managing money, and in one case offering interest-rate swaps - but none have supplanted their original business so quickly."From the very first days we couldn't remain simply a municipal bond reinsurance company," said Michael Satz, Capital Re's chief executive officer and founder. "We had to be creative in developing opportunities to diversifying our operations."
The reinsurers have a low profile, largely because their clients in a municipal transaction are the primary insurers. In a typical transaction, a primary insurer cedes a portion of the premium - and the risk - from a deal they've insured to a reinsurer, freeing up some of the primary insurer's capital to back even more deals.
For Capital Re, analysts agree diversification was a business necessity. They also say it has been successful for the firm because it increases earnings without jeopardizing its triple-A claims-paying ability.
"They all started when municipal finance was the dominant business," said Richard Smith, a managing director at Standard & Poor's. "That was not the type of growth any company would want to limit itself to."
At Capital Re, diversification has taken several forms. One subsidiary, Capital Mortgage Reinsurance Company, is a mortgage reinsurer. During the first half of 1998, the division wrote $41 million in mortgage reinsurance premiums. Meanwhile, Capital Credit Reinsurance Company Ltd. writes primarily European credit and speciality reinsurance.
And when it comes to branching out, the company is not averse to growth through acquisition. Capital Re acquired London-based RGB Underwriting Agencies Ltd. and has a joint venture with Bermuda-based Capital Global Underwriters Ltd. These operations write more traditional property and casualty reinsurance business. As Satz looks ahead, he sees these areas as key growth centers that could continue to cut municipal reinsurance's share of Capital Re's overall business.
"Clearly, as we become a bigger company it is reasonable to believe that (the municipal) portion will become smaller," Satz said. At the same time, he notes that while municipal insurance has decreased as a percentage of the portfolio, overall muni reinsurance volume continues to surge. In 1997, the firm wrote $52 million in gross municipal premiums. During the first half of 1998, the figure was already $37 million. If the current pace continues, Capital Re will write 42% more municipal business this year than the year before.
When it comes to the muni business, reinsurers' names are never attached to the deals they cover.
However, Satz did acknowledge that the firm underwrote a portion of the $1.3 billion of Long Island Power Authority bonds that FSA insured in April. That deal's massive volume helped vault FSA's market share to second-place among insurers, behind only MBIA, for the quarter.
In another parallel to its monoline partners, the reinsurance business has become much more competitive. RAM Reinsurance Co. entered the business last year joining two other established firms, Enhance Reinsurance Co. and Axa Re. Finance S.A. Satz says that while competition brings pressure, it also affords opportunity.
"To some degree, the more players that become involved in a particular type of product, the market can often expand because of that focus," Satz said. "In a sense there's a trade-off going on: you have more companies out there trying to do the same business, but the amount of business being done seems to be growing at the same time."
For Capital Re, earnings are in fact growing. In results released last week, the company said second quarter net income rose 21.7% to $19.6 million. Net income per share, meanwhile, climbed 18% to $0.59, ahead of analysts' expectations. "Your performance record is indeed your earnings, and there we have really had an unblemished record," Satz said.
Satz, who was the first legal counsel at Ambac in the early 1980s and later became that firm's chief operating officer, has seen both the bond insurance business and the reinsurance business develop from infancy.
"He is first-generation bond insurance," Standard & Poor's Smith said. As such, Satz has a keen appreciation for how quickly a product like financial guarantee insurance can emerge from obscurity to acceptance.
That said, he's aware - with a sense of humor - that the silent industry of reinsurance is not going to garner much recognition in the outside world.
"It has never behooved me at a cocktail party to tell someone I'm a reinsurance executive," Satz said.
