alternatives to reinsurance to share p&c risk - bc...

Alternatives to Reinsurance to share P&C risk December 2016

Alternatives to Reinsurance COMMERCIAL IN CONFIDENCE | © Baracchi Consulting] 2016

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Table of Content

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Section Component Description

1 Executive Summary •  Overview of our research and findings

2 What are the alternatives to reinsurance to share P&C risk?

•  Reinsurance: a definition •  Key Frameworks

3 Appendix •  Glossary •  Relevant published materials for further

reading


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Types of reinsurance

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TYPE OF REINSURANCE

Quota Share

Surplus Share

TRADITIONAL REINSURANCE

NON PROPORTIONAL

Excess of Loss (per risk)

Stop Loss (per occurrence)

Stop Loss (aggregate)

PROPORTIONAL

NON TRADITIONAL REINSURANCE

DIFFERNET OPERATIONS

SIMILAR OPERATIONS

HEDGING INSTRUMENTS

INNOVATIVE OPERATIONS

Cat futures

Derivatives

ILWs

Cat bonds

Fronting arrangement

s

Sidecars

P2P

Health Savings

Accounts

Public/Private

partnerships Insurance linked

securities

Collateralised

reinsurance

Stat

ic o

r dy

nam

ic

Source: secondary research


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Table of Content

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reading


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Reinsurance: a definition

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•  Insurance is an instrument for risk transfer through risk pooling, allowing a policyholder to eliminate the potential for a large loss by paying a relatively small insurance premium

•  Reinsurance provides insurance to insurance companies. It is a mechanism employed in the insurance industry to spread the risk it assumes from policyholders

MARKET SHARE (2015)

Munich Re 9.7%

Swiss Re 8.6%

Berkshire Hathaway 4.1%

1.  Increasing an insurer’s capacity to assume risk 2.  Reduce loss volatility and stabilize earnings. The lines

of business generally ceded are those with significant potential for loss and where the risks are not easily quantifiable or concentrated such as property and casualty insurance, such as in case of floods and tornados

3.  Correcting an accounting mismatch 4.  Helping to exit a business segment

A DEFINITION

KEY BENEFITS MAJOR PLAYERS


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Traditional types of reinsurance

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TYPE OF REINSURANCE

Quota Share Same % participation on each risk

Surplus Share % participation varies based on type/size of risk

PROPORTIONAL Reinsurer’s participation is predetermined

NON PROPORTIONAL Reinsurer’s participation depends on size of loss and/or time of event

Excess of Loss (per risk)

Reinsurer participates in excess of predetermined amount per risk or aggregate risk

Stop Loss (per occurrence) Reinsurers participates over a predetermined amount for all losses arising out of one event or occurrence

Stop Loss (aggregate)

Reinsurers participate over a predetermined aggregate limit of loss for a collection of risk over a period of time


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In recent years, the use of third-party capital has increased significantly

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•  16 percent of $300 billion in catastrophe reinsurance capacity worldwide is provided by third-party capital, up from 2 to 3 percent in the late 1990s

•  Third-party capital is typically accessed through securitized instruments (e.g. catastrophe bonds or loss warranties that pay out based on industry-wide loss events), private deals between an investor and a primary carrier (e.g. collateralized reinsurance) or a sidecar, through which capital markets co-invest their capital alongside reinsurance capital

•  About 80 percent of third-party capacity is focused on risks in the U.S. market (primarily hurricanes and earthquakes)

•  Other uses are government-backed terrorism and flood, pandemic, property facultative coverage and traditional liability

KEY BENEFITS ABOUT HALF OF THIRD-PARTY INSTRUMENTS ARE SECURITIZED

Source: Could Third-Party Capital Transform The Reinsurance Markets?, McKinsey Quarterly, 2013


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For primary carriers, traditional reinsurance and third-party capital each have pros and cons

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REINSURANCE VS CAPITAL MARKETS

Source: Could Third-Party Capital Transform The Reinsurance Markets?, McKinsey Quarterly, 2013


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Insurance-Linked Securities (ILS) were born as a new, specialist asset class to transfer insurance and reinsurance risks to the capital markets

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ACCESSING REINSURANCE RISK VIA INSURANCE-LINKED SECURITIES (ILS)

Source: http://www.sequantre.com/insurance-linked-securities-ils/


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Four approaches to ILS – 1/2 Catastrophe Bonds are the most established and liquid ILS structure while Industry Loss Warranties are key structure for peak events

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CATASTROPHE BONDS INDUSTRY LOSS WARRANTIES (ILWS)

Source: Investment Opportunity, Sequant


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Four approaches to ILS – 2/2 Collateralised Insurance are used to cover all obligations while Sidecars are used to write more policies

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COLLATERALISED REINSURANCE (CRE) SIDECARS

Source: Investment Opportunity, Sequant


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How ILS works at Sequant Reinsurance

13 Source: Investment Opportunity, Sequant

ILS BUSINESS MODEL


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How catastrophe bonds work

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CATASTROPHE BONDS

Source: Alternative capital and its impact on insurance and reinsurance markets, Insurance Information Institute, 2015


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Digitalization and highly competitive reinsurance markets speed up innovation

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MUNICH RE IS PRESENT IN INNOVATION HUBS AROUND THE WORLD

Source: Innovation: Translating Ideas into Business, Munich Re, 2015


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Covering four areas of innovation, MunichRe generated over 400m euro in premium from innovative products

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THE FOUR STRATEGIC INITIATIVES

Source: Innovation: Translating Ideas into Business, Munich Re, 2015


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Health savings account (HSA) provide an easy way to save and pay for qualified health care expenses, without paying taxes on that money

17 Source: xxx

•  Wells Fargo offers a Health Savings Account (HAS)

•  As you have doctor’s visits, prescriptions to fill, and other healthcare costs, you can use a health savings account (HAS) to pay for these expenses

•  Save money in the HAS to prepare for expected and unexpected expenses

•  Plan for retirement by investing money in a HSA

KEY POINTS 1. PAY LESS FOR HEALTH INSURANCE

2. SAVE UP TO 30% MORE FOR HEALTHCARE

3. KEEP IT AND OWN IT 4. DOUBLE IT AS A RETIREMENT ACCOUNT


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Public-private partnerships are possible when capacity or cost constraints make it necessary to sustain a fully functional system

18 Source: A proposal and rationale for government-sponsored catastrophic reinsurance in support of agro-insurance in Ukraine, International Finance Co.

PUBLIC-PRIVATE REINSURANCE IN AGRO-BUSINESS IN EMERGING COUNTRIES


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Further case studies

19 Source: xxx

•  Large fund supporting direct insurance operations in the U.S. •  Nephila offers five types of products for catastrophe reinsurance: bonds, industry loss

warranties (ILW), indexed products, direct reinsurance and retrocession NEPHILA

FRIENSURANCE •  Founded in 2010, Friensurance is a P2P insurance business from Germany •  Rewards small groups of users with a cash-back bonus at the end of each year they remain

claimless •  Currently operates as an independent broker with 60 domestic insurance partners

LEMONADE •  P2P insurance •  Raised $13 million in initial funding in December 2015 •  The business model is still to be announced

OTHER EXAMPLES •  P2P insurance: Guevara (United Kingdom) and TongJuBao (China) •  AnalyzeRe is a Canadian start up that provide real-time data analytics for the reinsurance

industry to make faster and more accurate pricing and portfolio decisions


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Table of Content

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reading


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Glossary: Type of Reinsurance

21 Source: Guy Carperter website

Term Definition Agency Reinsurance 1.  A designation that identifies the reinsurance of one or more of an agent's policies, with the agent acting for the reinsured

under its authority. 2.  A contract of reinsurance between a policy-issuing insurer and a reinsurer that concerns or is confined to business

produced by a named agent of the insurer, usually generated by that agent and administered directly with the reinsurer with permission of the insurer. While there are other reasons for the practice, the usual intent is to allow an agent to issue larger policies than the insurer would otherwise permit. Usually, agency reinsurance is written as proportional reinsurance on property or other first-party insurances.

Aggregate Stop-Loss Reinsurance

A form of excess of loss reinsurance which indemnifies the reinsured against the amount by which the reinsured's losses incurred (net after specific reinsurance recoveries) during a specific period (usually twelve months) exceed either an agreed amount or an agreed percentage of some other business measure, such as aggregate net premiums over the same period or average insurance in force for the same period. This form of reinsurance is also known as stop-loss reinsurance, stop-loss-ratio reinsurance, or excess of loss ratio reinsurance.

Authorized Reinsurance

Reinsurance placed with a reinsurer which is licensed or otherwise recognized by a particular state insurance department.

Catastrophe Reinsurance A form of excess of loss reinsurance which, subject to a specified limit, indemnifies the reinsured company for the amount of loss in excess of a specified retention with respect to an accumulation of losses resulting from a catastrophic event or series of events. The actual reinsurance document is referred to as "a catastrophe cover."

Combination Plan Reinsurance

A form of quota share and excess of loss reinsurance combined which provides that, in consideration of a premium at a fixed percent of the ceding company's subject premium on the business covered, a) the reinsurer will indemnify the ceding company for the amount of loss on each risk in excess of a specified retention, subject to a specified limit, and b), after deducting the excess recoveries on each risk, the reinsurer will indemnify the ceding company for a fixed quota share percent of all remaining losses.

Coreinsurance A provision in an excess of loss reinsurance contract requiring the reinsured to retain net and unreinsured otherwise (or to co-reinsure) a part of the loss above the contract's retention, the purpose of which is to promote good claims handling by the reinsured. For example, when the reinsurer covers 95% of an excess of loss layer, the reinsured's 5% share of the excess losses is co-reinsurance, a proportional sharing of the layer losses. When several reinsurers are independently sharing a reinsurance contract (pro rata or excess, treaty or facultative), each reinsurer is a co-reinsurer (as can be illustrated by another term, contributing excess).


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Term Definition Excess of Loss Ratio Reinsurance

See Aggregate Excess-of-Loss Reinsurance.

Excess of Loss Reinsurance

A generic term describing reinsurance which, subject to a specified limit, indemnifies the reinsured company against all or a portion of the amount of loss in excess of the reinsured's specified loss retention. The term is generic in deserving various types of excess of loss reinsurance, such as per risk (or per policy), per occurrence (property catastrophe or casualty clash), and annual aggregate. The loss retention in excess of loss reinsurance should not be confused with the policy retention in surplus share re-insurance, which always refers to a pro rata form of reinsurance in which, once a cession of insurance is made, the reinsured and reinsurer share insurance liability, premium and losses, beginning with the first dollar of loss. Also known as Non-proportional Reinsurance.

Excess per Risk Reinsurance A form of excess of loss reinsurance which, subject to a specified limit, indemnifies the reinsured company against the amount of loss in excess of a specified retention with respect to each risk involved in each loss.

Facultative Reinsurance In pro rata reinsurance, the reinsurance of part or all of the insurance provided by a single policy, with separate negotiation for each policy cession of insurance - for sharing liability, premium, and loss. In excess of loss reinsurance, the reinsurance of each policy, with separate negotiation for each - for indemnity of loss in excess of the reinsured's loss retention. The word "facultative" connotes that both the primary insurer and the reinsurer usually have the faculty or option of accepting or rejecting the individual submission (as distinguished from the obligation to cede and accept, to which the parties agree in most treaty reinsurance).

Intercompany Reinsurance Reinsurance entered into among the affiliated members of an insurance group. Often called an intercompany "pool," the practice is common among major insurance groups. The basic purpose is to spread the net (after outside reinsurance) writings and exposures of that group evenly across the group's entire policyholder surplus.

Nonadmitted Reinsurance Reinsurance protection bought by a reinsured company from a reinsurer not licensed or otherwise authorized to transact the particular line of business in the jurisdiction in question. No credit is given to the company for such non-admitted reinsurance in its Annual Statement unless it withholds funds or holds a letter of credit on behalf of such unauthorized reinsurer, as shown in Part 2 of Schedule F of the Annual Statement.

Nonproportional Reinsurance Reinsurance in which the reinsurer's response to a loss depends on the size of the loss, so named because the premium in non-proportional reinsurance is not proportional to limits of coverage. Also known as Excess of Loss Reinsurance.

Participative Reinsurance The sharing of risks, as in quota share and surplus share reinsurance, in which the reinsured and the reinsurer participate pro rata in all losses beginning with the first dollar. See Pro Rata Reinsurance.


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Term Definition Portfolio Reinsurance The transfer of a portfolio of premiums or outstanding loss reserves to a reinsurer; the reinsurance of a runoff. Only policies in

force (or losses outstanding) are reinsured, and no new or renewal business is included. Commonly used by an insurer when retiring from an agency, a territory, or from the insurance business entirely. Known also as Assumption Reinsurance.

Pro rata Reinsurance A generic term describing quota share and surplus share reinsurance in which the reinsurer shares a proportional part of the ceded insurance liability, premiums, and losses of the ceding company. Also known as Participating Reinsurance and Proportional Reinsurance. See Quota-Share and Surplus Share.

Proportional Reinsurance Another name for Pro Rata Reinsurance.

Quota-Share Reinsurance A form of pro rata reinsurance (proportional) in which the reinsurer assumes an agreed percentage of each insurance being reinsured and shares all premiums and losses accordingly with the reinsured. Quota share reinsurance is usually arranged to apply to the insurer's net retained account (i.e., after deducting all other reinsurance except perhaps excess of loss catastrophe reinsurance), but practice varies. A quota share reinsurer may be asked to assume a quota share of a gross account, paying its share of premium for other reinsurance protecting that gross account.

Spread Loss Reinsurance A type of excess of loss property reinsurance which provides for a periodic adjustment of the reinsurance premium rate based on the reinsured's experience for preceding years (usually five), plus a loading for the purpose of compensating the reinsurer for a) its expenses, b) the possibility of unusual losses, c) those losses occurring at the end of the period of the treaty which the reinsurer might not have a chance to recoup if the treaty is not renewed, d) a catastrophe possibility, and e) the reinsurer's profit. In casualty reinsurance, adjustments to the above may be required for such other factors as economic and social inflation. Also known as Carpenter Plan.

Surplus Share Reinsurance A form of pro rata reinsurance indemnifying the ceding company against loss to the extent of the surplus insurance liability ceded, on a share basis similar to quota share. Essentially, this can be viewed as a variable quota share contract wherein the reinsurer's pro rata share of insurance on individual risks will increase as the amount of insurance increases, given the same reinsurer's retained line, in order that the primary company can limit its net exposure to one line, regardless of the amount of insurance written. First surplus is the amount of surplus on each risk (one or more multiples of the reinsured's line) that must apply first to the first surplus contract. Second surplus, third surplus, etc., reinsurances are the remaining portions of the surplus liability that must apply to each such respective contract after deducting the amount(s) ceded to the underlying surplus contract or contracts.


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Term Definition Treaty Reinsurance A standing agreement between reinsured and reinsurer 1) for the cession and assumption of certain risks as defined in the

pro rata treaty, or 2) for indemnity by the reinsurer only for the reinsured's losses above the reinsured's loss retention. While most pro rata treaty reinsurance provides for automatic cession and assumption, it may be optional or semi-obligatory and is not necessarily obligatory.

Unauthorized Reinsurance Reinsurance placed with a non-admitted reinsurer which is not licensed or approved in the jurisdiction in question.


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Relevant Articles

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Title Year Authors

Peer 2 Peer insurance is taking the industry back to its roots! 2015 Daily Fintech Insurance disrupted: General insurance in a connected world 2015 Deloitte 2015 Property and Casualty Insurance Outlook Focusing on the big picture 2015 Deloitte Capital Markets: The Reinsurance Evolution Continues 2014 Guy Carpenter

Alternative Capital and its Impact on Insurance and Reinsurance Markets 2015 Insurance Information Institute

A New World of Opportunity: The insurance innovation imperative 2015 KPMG

Could Third-Party Capital Transform The Reinsurance Markets? 2015 McKinsey & Co.

Innovation – Translating Ideas into Business 2015 MunichRe

Alternatives in Capital (Re)Insurance 2014 Trainer, Phelippe

Reinsurance Supported Innovation Profitably Insure New Risks 2010 AON

The Way Forward: Innovation and differentiation in the reinsurance industry – the CEO perspective

2010 PWC

re•in•sur•ance: A Basic Guide to Facultative and Treaty Reinsurance Munich Re

Alternative Capital: The Next Evolution Pantnerre

Investment Opportunity Sequant


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Relevant Books

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Title Year Authors

Making a Market for Acts of God: The Practice of Risk-trading in the Global Reinsurance Industry

2015 Jarzabkowski, Paula Bednarek, Rebecca Spee, Paul

Reinsurance 2014 Carter, R.L.

Alternative Risk Transfer: Integrated Risk Management through Insurance, Reinsurance and the Capital Markets

2004 Banks, Erik

Reinsurance: Fundamentals and New Challenges 2004 Gastel, Ruth

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