1.

Some policymakers are erecting protectionist boundaries on cross

border reinsurance trades, the Global Reinsurance Forum has
documented more than two dozen jurisdictions with protectionist
measures. China imposes collateral on cross border reinsurance and
capital charges for cedents; India imposes withholding taxes on
some reinsurers and mandates local cessions; Indonesia operates a
government monopoly and mandates local cessions.
Whats the
best argument to make to get these governments to change course
and support free cross border reinsurance trading?
2. Will regulation eventually ring fence reinsurance capital into
multiple jurisdictional subsidiaries? If so what is the consumer
market implication of that regulatory action?
3. What are the chances that a single IAIS group insurance capital
standard leads to commonality of capital requirements around the
world?
4. Regulatory collateral requirements have been reduced in the US and
will be eliminated for Europe and equivalent jurisdictions in 2016.
Will those actions encourage China to eliminate reinsurance
collateral?
(Above Questions Left- Deal with regulation, we need to defend our
stand of preferential treatment of local reinsurers, therefore need to
word it carefully.)

Topic 1: Reinsurance Hubs

What makes a reinsurance hub?
1. Geographic location/Captive Market:
Location has to be a competitive advantage. Must be a significant international
node for getting investors across the world on-board.
Huge domestic market or off-shore business because of location.
2. Market Constitution:
A reinsurance centre cannot claim to be a hub unless it can attract the right mix
of market players. Strong representation by top global reinsurers, a full-fledged
and well developed financial sector providing the full range of financial services
including legal advisers, actuaries, technical accounting, a world class IT
infrastructure, excellent transportation facilities and recognition by highly
regarded global forums.

3. Regulatory, political and social environment

Political stability is a prerequisite in any investors checklist. The insurance
regulator, has to play an instrumental role in instilling and enforcing strong
regulatory regimes necessary to encourage foreign entities to set up their local
branches and subsidiaries.
Aside from that, there could be attractive tax incentives for the insurance
industry such as a favorable corporate tax rate for offshore businesses, and
other operational and global headquarters incentive schemes.
4. Talent Pool
There has to be an inflow of international and regional expertise at the top and
middle management, thus increasing the talent pool. Local professionals should
be additionally nurtured in this area with the continual efforts by the Insurance
educational institutes, the regulator & the insurance industry.
Building Reinsurance Hubs on Regional Capacity
1. The Expectations and pre-requisites for a RI Hub
Dubai and Singapore are the undisputed reinsurance centers for Middle East and
Emerging Asia
Its a consequence of acute foresight and careful economic engineering
Ingredients of a reinsurance hub:
Economic and political stability
Quality of local legislation and regulation
Ease of Doing Business
Cosmopolitan environment
Availability (importability) of highly skilled finance professionals
Adequate education and training facilities
Competitive tax environment
Convenient geographical location
Available capacity for mainline and niche segments
Cluster of services specialized lawyers, Loss adjusters, Risk Engineers, forensic
Accountants and HR Consultants etc.
DIFC A purposefully built free zone (Points for subtopic: learning from DIFC)

DIFC offers its member companies major benefits:

Full foreign ownership
Zero tax rate
No restrictions on capital convertibility
No restrictions on profit repatriation
Cluster of reinsurers, Lloyds cover holders, MGAs and other specialized service
providers
The Free Zone has its own independent regulator: DFSA
Committed to risk and principles based approach
Offers independent common law judiciary with jurisdictions over civil and
commercial disputes
Cluster of 18 (re) insurers, 37 intermediaries and 16 specialized services

Singapore a nation-wide regulatory framework

The (re)insurance hub of Singapore offers a common, nation-wide legal and
regulatory framework for both onshore and offshore business:
Singapore has become worlds most competitive economy
English common law system
Sophisticated regulatory environment
Competitive tax rules (10% corporate tax for offshore business)
Superior quality of living and a deep talent pool
Removal of foreign ownership limits
Risk Based Capital framework
Singapore has 78 direct insurers, 31 reinsurers, 64 captives, and 73 Brokers
operators regulated through SIF & OIF
The emerging reinsurance hubs offer a number of advantages:

Proximity to emerging markets which offer encouraging growth prospects. The

ability for international reinsurers to have a business presence close to these

new markets will allow reinsurers to understand the local markets better and
build local knowledge regarding the underlying risks.
Enhancing customer service by having local offices, operating in local time
zones.
Developing regional skills that are targeted at the emerging markets through
regional staff who deal with local markets on a day to day basis.
Promoting the development of localised wordings that are fit for purpose in the
local context. This will avoid the all too common phenomenon of international
wordings being used to underwrite local business without being adapted to fit
the local context.
A business-friendly approach within a sophisticated regulatory operating
environment. The frameworks created by Singapore and the Dubai International
Financial Centre (DIFC) are world-class, and are backed up by sophisticated
regulators and judicial / arbitration frameworks.
The ability to streamline and enhance the distribution process through
interaction and continuing development of local brokers and intermediaries.

It is clear from the pattern emerging from hubs such as Dubai and Singapore, that
the hubs are not replacing the established centres. Rather, they are serving to
extend the global reach of the market players based in those hubs, India will
definitely benefit by developing itself as regional hub.

Singapore: (Ravi Menon, MD- MAS s speech)

In the early days, the Singapore insurance industry was focused on servicing
domestic business, with life insurance being the mainstay. In fact, MAS had
adopted a closed-door policy to direct insurers since 1990. In 2000, MAS
liberalized the insurance industry, lifting the closed-door policy on direct insurers
and the 49% foreign shareholding limit in locally owned direct insurers.
Singapore's development as a regional insurance hub took off.
Since 2000, offshore business has been on a steady uptrend, growing an
average of 13% per annum to US$5.4bn in 2012. The share of offshore non-life
business has increased from 50% in 2000 to 65% in 2012.
Major insurance groups across different segments of the industry, from direct
insurers to reinsurers and brokers, have sited their regional operating and
business hubs here.
Today, Singapore is recognized as the leading reinsurance hub in Asia. Amongst
the top 25 reinsurers in the world, 16 have regional hubs here.
The market has built up significant expertise in specialty insurance, namely
marine, energy, catastrophe, credit and political risks. For example, Singapore is
the second largest market for structured credit and political risk worldwide after
London.

The number of global and regional positions in Singapore has grown. Most
underwriting decisions can be made on the ground instead of being referred
back to headquarters. This has enabled the Singapore market to respond more
quickly to clients' needs. Most Asian risks, including entire large reinsurance
programmes and specialty risks, can now be fully placed in Singapore.
The future vision for becoming a global hub as outlined by MAS: (Can also be
used for how to become a reinsurance hub)
Our vision is for Singapore's insurance industry to become a global marketplace
by 2020, with the ability to accept not just regional, but global risks. To achieve
this, we are pursuing four strategies with clearly laid out initiatives.
First, to increase supply-side capacity, in both volume and expertise.
Second, to promote insurance demand, both locally and in the Asia-Pacific.
Third, to develop a true marketplace, where sellers and buyers come together to
negotiate and trade risks.
Fourth, to foster a conducive business environment.
Increase capacity:
We are focused on increasing the quality and diversity of underwriting expertise
here. Having expert underwriters on the ground enables insurers to be more
responsive to their clients and make underwriting decisions quickly. They will
also have a better understanding of the market environment and underlying
risks.
Recent events highlight the need to build up a deeper understanding of Asian
risks. For example, prior to the devastating floods of 2011, Thailand had not
been viewed as catastrophe-prone. The scale of the floods and the knock-on
effects of natural catastrophes on global supply chains came as a rude surprise.
The floods damaged more than 7000 industrial and manufacturing plants in 40
separate provinces. This affected countries with significant manufacturing
capabilities in Thailand, most notably Japan. The majority of the insurance losses
therefore came not from property damage, but from business interruption claims
arising from the disruption to manufacturing and supply chains. It is therefore
important that insurers have senior experts in the region who understand Asia's
multi-faceted and inter-connected risks. This will enable the industry to better
price and underwrite regional risks, and achieve sustained growth.
MAS will seek to increase the depth of expertise in Singapore by continuing to
work with existing players to build up their specialty and reinsurance
underwriting and broking capabilities as well as expand their regional hubs.
MAS will also seek to increase breadth in the industry by promoting growth in
emerging business lines, such as cyber risks. Lack of data is a key hurdle for
cyber insurance in Asia. MAS is working with industry to create a test-bed for

cyber risks where insurers and potential clients can come together to simulate
loss events.
Cyber insurers will be able to generate sets of valuable loss data and raise
awareness about the value of specialty cyber insurance cover.
Clients will get the opportunity to stress-test their systems, assess the
responsiveness of existing coverage to losses, and gain an appreciation of
potential losses and the need for cyber insurance cover.
Promote Asian demand
Asia is already leading the world in premium growth. We seek to catalyze the
development of insurance demand in the region via a three-pronged approach.
First, enhancing cross-border access to regional markets. The ASEAN economies
are working together on a comprehensive insurance liberalization framework.
We aspire to achieve substantial liberalization by 2020 for all insurance subsectors, namely life insurance, non-life insurance, reinsurance and retrocession,
insurance intermediation, and insurance auxiliary services.
Second, increasing the pool of Asian risk data. Modelling and loss simulation are
key tools to help insurers manage and price their exposures. Accurate and timely
data are critical for risk models to predict the impact of a loss event. For
example, to predict the vulnerability of an insured risk to catastrophes, a wide
variety of data is required, such as geographic location, soil structures, rainfall,
construction materials and urban density, just to name a few. However, there is
a severe paucity of data on Asian risks.
Singapore is addressing this gap by setting up several research institutions to
gather and analyze data in specific areas of risks.
For example, the Institute of Catastrophe Risk Management (ICRM) at the
Nanyang Technological University is currently undertaking research projects for
flood and earthquake risk assessment in selected Asian cities.
In addition to collecting and analyzing the data, ICRM conducts on-site studies
and risk assessments of the cities in question, and develops hazard maps and
risk models.
To ensure that its research is relevant to the industry, ICRM actively reaches out
to industry players through seminars and workshops.
Third, increasing risk awareness.
MAS supports efforts to raise risk management awareness in the region. Asia's
first association for risk managers, the Pan-Asian Risk and Insurance
Management Association (PARIMA), was set up in Singapore in April, with strong
support from the insurance industry.
As a platform for dialogue between risk managers and the insurance industry,
PARIMA will help to enhance risk culture and risk management capacity in Asia.
Develop the marketplace
We have three key thrusts for marketplace development.

First, expanding the broker network. Singapore already has a vibrant broking
cluster, which has played a central role in facilitating business flows. We play
host to over 70 insurance brokers. Four of the top five brokers in the world have
their regional hubs in Singapore. Today, brokers are not just intermediaries, but
also high-value service providers who drive innovation and collaboration in the
industry.
Many brokers provide a wide range of risk management services. These include
dynamic financial analysis, risk management and actuarial consultancy, portfolio
and financial modelling, and catastrophe modelling.
Some brokers have also begun to tap alternative risk transfer solutions to
manage more complex and larger risk exposures and liabilities.
We are keen to encourage brokers to use Singapore not just as a placement
centre, but also as a centre of excellence for innovation.
Second, encouraging a subscription market. To underwrite large and complex
risks, insurers need to collaborate. Risk sharing enables market participants to
diversify their portfolios. We want to promote a true subscription market, where
insurers not only share risks, but also expertise. The subscription concept
leverages both the deep expertise of the lead insurer and the supporting
capacity of the other insurers to cover a variety of large and complex risks.
Such deep collaboration requires contract certainty. Contract certainty ensures
the finalization of terms and conditions of the policy prior to inception of risk and
therefore, serves to minimise ambiguity and disputes over claim and coverage.
Third, creating more platforms like SIRC/EAIC to bring buyers and sellers
together.
Finally, I will touch on our efforts to foster a conducive business environment for
insurance. There are two critical success factors.
The first is Talent. The insurance industry already has in place some good talent
development programmes at the undergraduate and fresh graduate levels.
Take for instance, the Global Internship Programme (GIP) offered by the General
Insurance Association. This is a structured internship programme which gives
selected undergraduates exposure in general insurance companies both locally
and overseas.
MAS, in partnership with the industry, has recently developed an Insurance
Talent Development Framework, which maps out training and career progression
pathways for both new entrants and existing insurance professionals. New
industry-wide programmes will be launched in 2014 across a spectrum of roles
and seniority levels.
Basically, it needs to do more of the above to become a global hub.
How many hubs can Asia support??
We are talking about a continent which will grow 7% per annum over the next 5
years nearly 3 times faster than the advance economies.

While growing domestic demand has fueled growth, a few structural trends suggest
that demand will continue to rise in the longer term:
The first trend is demographic change. Asias population is growing rapidly. Over the
next 5 years, the UN expects Asias population to increase by a further 5%, or 200
million more people, compared to 1.6% in the more developed economies. This
population is also ageing rapidly. The number of people over 65 in the region is
estimated to increase threefold to almost 1.3 billion by 2050. This will increase
demand for healthcare and retirement planning services, and products.
The second trend is rising affluence. The spending power of the Asian consumer is
increasing. In fact, ADB expects average household expenditure in developing Asia
to almost triple over the next two decades.
The third trend is rapid urbanization. According to the UN, Asia will account for 54%
of all growth in the worlds urban population over the next four decades. This trend
of increasing urbanization will continue to drive demand for infrastructure across
the region.
Consequently,
Risk mitigation measures will need to keep pace with economic growth. Currently,
there is a significant protection gap in the region. Despite growing by an average of
about 15% per year over the last decade, insurance penetration rates in emerging
Asia still hover at 1-3%, or less than half the global average. Asias experience in
2011 was evidence of the consequences of under-insurance. Only about 50% of Thai
flood losses and 15% of Japanese tsunami losses were insured. Self-insurance by the
government was the key mode of risk mitigation. As a result, national economies
were
burdened
with
the
hefty
recovery
costs.
As risk awareness in Asia grows, there will be increased demand from corporate and
individuals for insurance cover. According to Munich Re, premiums in Asia Pacific will
double by 2020, and account for nearly half of the global premium growth over the
same period. China and India are key markets, with ASEAN-4 markets of Malaysia,
Indonesia, Thailand and the Philippines also expected to grow rapidly.
While Singapore & Hong Kong have the lead, you will see regional hubs coming up
in India & China as well. With large infrastructure and investment potential in the
Middle East, Dubai or Bahrain could see its rise as a regional centre but this would
probably need a lot more energy and commitment in order to emulate Singapore.
Each regional hub will cater to its own captive market- India for South Asia &
SAARC, Singapore for South East Asia & ASEAN countries. Hong Kong for North Asia
& China. When Shanghai becomes a regional centre then you will see Hong Kong
diminishing in importance as a regional hub.

So the size of the market ensures that in about 25-30 years Asia will have many
regional hubs but which of these becomes the next global hub will be down to
policies & a well-thought out & enabling regulatory regime. Right now, Singapore
has the edge and looks likely to do it the earliest.
How many global hubs should there be?
I think we must appreciate that risks are increasing in size, complexity & interconnectedness. This will result in loss events having unexpected domino effects.
With globalization, the impact of loss events will be less confined to a specific sector
or geographic region. It will become even more critical to identify interdependencies
between individual risks, and manage accumulation of risks well.
This means you have to have a presence on the ground, be closer to the risk to
make sound under-writing decision. Robust pricing & risk models assume a deep
understanding of the underlying risks. You cant do that from a global hub.
Urbanization & Rising affluence coupled with risk awareness will create the
necessary environment cost/investment wise. I think the word glocal comes to
mind when I think of how reinsurance will evolve in the next 20-30 years. You will
have regional hubs which because of the capacity offered, volume of business &
available capital will attract the necessary talent & technical expertise.
For these hubs to shed their regional character and go global- that will have to do
with their ambition & vision outlined by the policy-makers.
Topic 2: Market Conditions:
Generic conditionsReinsurance pricing continued to soften at the key January renewals; notes S&P, as
ample capacity from alternative reinsurance capital providers continued to heighten
competition, as well as a noticeable absence of catastrophe losses, low investment
returns, and a high level of reserve releases.
Those that were perhaps too aggressive with reserve releasing might find
themselves in a difficult position when the market does start to turn and losses
begin to normalize somewhat.
Top lines are suffering not only from lower prices, but also from a fall in the level of
reinsurance purchased by cedants in recent years and difficulty finding areas where
profitable organic growth is possible. The problem is compounded by low interest
rates globally; reinsurers cant rely on investment income to boost bottom-line
profitability. Lower reinvestment rates for assets imply that returns are likely to
remain anemic and wont offset the weaker premium rates being achieved.
During 2015, as adverse market conditions intensified, efficiency became more and
more important, reflecting the limited growth opportunities outside of consolidation.

In their hunt for efficiency market players increasingly utilized the wealth of
alternative reinsurance capital to supplement, or even replace existing catastrophe
programmes in 2015, a trend that also helped to increase the acceptance and
sophistication of the expanding ILS space.
The question remains, what will happen when major losses do strike. On the basis of
the forecast combined ratio, any major loss would tip the reinsurance business into
negative territory very quickly. At that point terms underwritten, prevalence of
multi-year or aggregate covers, quality of retrocessions, level of price adequacy, will
all come into play for reinsurers.
The UK PRA recently noted its concern with falling prices and liberalization
of terms saying these are inconsistent with prudent management. With
abundant capital and falling prices whats the best strategy for a
reinsurance underwriter today?
Jan Renewals saw further erosion of prices and terms, driven by an oversupply of
capital. Given these persistent challenging operating conditions, the larger
reinsurers approached the renewal expecting a reduction in volume and capital
deployed. They have tried to maintain terms, albeit with some slippage in certain
lines, but a significant number of treaties not renewed as a result of the unattractive
terms on offer. By walking away and showing cedents they are not prepared to take
further expansion of terms some of the large reinsurers appear to be saying enough
is enough.
The issue of expanding terms and conditions is perhaps under-estimated in the
reinsurance market right now. Terms expansion can lead to unexpected, or outsized,
loss experience by companies, something that we wont be able to understand until
a difficult, or large loss or series of losses occurs.
Terms and conditions are generally poorly represented in the risk models, making it
very hard for companies to assess how their own exposure has expanded alongside
broadening of terms and even more difficult for analysts to understand. Given weve
now seen a number of consecutive years of terms and conditions expansion it
stands to reason that companies exposure to different events will be diverging quite
considerably, especially given some companies will negotiate their own terms
before signings.
It stands to make the fall-out of any increase in loss activity very interesting to
watch, as companies portfolios respond in different ways as differing terms,
inclusions, expansions, all serve to add to the uncertainty surrounding the stability
of some companies strategies right now.
At the end of the day, the winners and losers will be decided by whose results
perform for the longest, if the current reinsurance market conditions and pressure
remain. This provides an opportune moment for innovative, efficient business

models to gain traction and demonstrate that there are new ways to manage risk,
capital and investments in re/insurance.
So, the best strategy for a reinsurer underwriter todayDisciplined underwriting will be essential in order to compensate for low investment
returns and a diminished ability to release prior year reserves. Against this
background attaining risk-adequate prices at renewals is crucial for reinsurers.
You have to maintain discipline throughout negotiations, while further strengthening
your client and broker relationships. The strength of your diversification efforts
should result in renewing a high quality portfolio, in some cases at superior market
terms, and finding additional pockets of attractive new business.
As profitability in the property cat space becomes ever-more challenging, falling to
levels where even the largest reinsurers could struggle to meet their cost-of-capital
requirements, its expected that reinsurers will increasingly pull-back on these
business lines, and look to deploy more capacity into the casualty space where
returns might be more desirable.
You should want to maintain a catastrophe portfolio, but all the while managing and
steering it towards a lower market share and the more profitable opportunities.
If there is a major loss, or a market dislocation, it is then you should seek to
increase your market share significantly. While you could have written more, as
there is no lack of opportunities being supplied, you should never underwrite at
levels below the modelled expected loss.
But, it is easier said than done because of the following:

Imprecise Art of Underwriting- In a competitive market, some

underwriters will decide, perhaps mistakenly, that they can make an
adequate return at a lower premium, and will be aggressive in their pricing.

Protecting Renewals- Almost no insurer is willing to watch its carefully

cultivated portfolio of prime accounts slip away, only to have to rebuild it
from scratch when pricing improves

Pressure from brokers & agents- Brokers expect support from

underwriters in the bad times as well as the good. Underwriters fear that they
will not see a brokers best accounts in a more favorable market if they
withdraw too much capacity in a soft market.

Pressure from shareholders and analysts: Shareholders and analysts

frequently pressure senior management to grow even when management
knows that profitable growth is an elusive goal.

Clout: Some insurers believe market share equates to market clout. By

maintaining a strong presence in the marketplace through all phases of the
underwriting cycle, they believe they can command more favorable terms.

Underwriting Talent: To downsize in a soft market could result in a

significant penalty both in terms of cost and the availability of top talent
when trying to rebuild an underwriting staff when the market improves.

The greener grass syndrome: When pricing turns soft in an insurers core
business segments, invariably, there is a scramble to identify new
opportunities. Often these perceived opportunities are far away from the
insurers underwriting strengths, and a mad rush to build or contract for the
expertise necessary to underwrite and service this business ensues.

Cash flow underwriting: Since investment income and capital gains can
offset underwriting losses, insurers are often motivated to continue to write
business even if it is priced below cost.

Does alternative capital mean that a soft market wont abruptly turn into
a hard market?
For the time being, the track record of ILS funds is favorable because we havent
had major losses and their returns presumably meet their investors expectations.
Alternative capital is here to stay and part of the tool kit for many, from reinsurers
with diversified capital strategies to more sophisticated insurance buyers directly.
Its about having options and flexibility. As the sources of capital evolve, so will the
products demanded and preferred by clients. We also expect to see the insurance
space becoming a core target for alternative capital as well as non-catastrophe
areas.
However, the reaction of those markets in the case of a major loss is still
questionable. Not so much the question of everyone exiting the market but more
the question what is the return expectation post loss compared to prior to the loss.
That of course will also determine the competitiveness of the alternative capital
vehicles compared to traditional reinsurers.
While capital markets' ability to pay should be adequately secured through
collateralisation, they haven't been tested yet by a major catastrophe. There is also
the potential for capital markets to have a more litigious attitude when the
inevitable unmodelled loss occurs and it remains to be seen how readily and
promptly they will respond in that scenario.

Fitch estimates a catastrophic loss of at least $70bn, coupled with significant

unrealised investment losses, would be needed before the market felt a significant
impact. Others have said it would take a loss of $100bn to shift market pricing.
When one strikes, the suspicion is alternative capital may lose its appetite for
natural catastrophe risk but a counter-view is the new vehicles will be able to
demonstrate their worth and will be prepared to stay as prices should rise. Major
losses in the past have been followed by a rise in prices and an influx of new
capacity, in the usual form of a start-up, showing financial interests are not always
deterred by the threat of major losses. Next time, a major catastrophe may spur the
arrival of new capital in alternative form.
So, in terms of cycles- the length or the time-period will increase and the amplitude
i.e. the deviation in terms of prices will decrease.
Does a reinsurer that is privately held (or closely held) have an advantage
over publicly traded reinsurers?
There was a study like this done for banks in US and what they found was that

For larger firms, publicly owned and privately held are about equally profitable.
However, for smaller firms, privately held firms are significantly more profitable
than publicly traded companies, averaging between 15 and 30 basis points in
ROA.
There was a strong evidence of higher operating costs per dollar of assets
among publicly owned companies. For the overall period, the differences in
mean operating costs between public and private BHCs varied between 11 & 34
basis points and it was observed that the difference in mean operating costs
narrows as firm size increases.
Also, on the risk taking metric & corporate governance norms, it was found that
privately held firms showed a greater risk appetite given the right return and
corporate governance norms were weaker than those observed in publicly traded
firms.

In the reinsurance sector, Hedge funds are increasingly investing in the reinsurance
business as a means for innovation and diversification in the rapidly growing
convergence space. In the hedge fund reinsurer structure, the reinsurance entity
focuses on its chosen lines of business from an underwriting perspective, while the
investible assets are managed by the sponsoring asset manager. So, there might be
more innovation, agile capital seeking greater returns at privately held reinsurers
but ultimately whether you are a publicly traded or a privately held reinsurer, this
industry
rewards
prudence
&
risk-commensurate
pricing.
(Might need more inputs).

Ceding insurers (reports say) are keeping their reinsurance spend up by

buying more coverage at the same aggregate cost as before; sounds good
for the cedent what are the implications for the reinsurer?
Already covered before. Reproducing same info here.
The issue of expanding terms and conditions is perhaps under-estimated in the
reinsurance market right now. Terms expansion can lead to unexpected, or outsized,
loss experience by companies, something that we wont be able to understand until
a difficult, or large loss or series of losses occurs.
Terms and conditions are generally poorly represented in the risk models, making it
very hard for companies to assess how their own exposure has expanded alongside
broadening of terms and even more difficult for analysts to understand. Given weve
now seen a number of consecutive years of terms and conditions expansion it
stands to reason that companies exposure to different events will be diverging quite
considerably, especially given some companies will negotiate their own terms
before signings.
It stands to make the fall-out of any increase in loss activity very interesting to
watch, as companies portfolios respond in different ways as differing terms,
inclusions, expansions, all serve to add to the uncertainty surrounding the stability
of some companies strategies right now.
At the end of the day, the winners and losers will be decided by whose results
perform for the longest, if the current reinsurance market conditions and pressure
remain. This provides an opportune moment for innovative, efficient business
models to gain traction and demonstrate that there are new ways to manage risk,
capital and investments in re/insurance.
Key Asian jurisdictions like China and India are trying to dramatically grow
domestic reinsurance markets. Should developing jurisdictions focus on
incentives
for
domestic
insurers
and
domestic
reinsurers?
(Regulatory Position: Need to defend our stand more)
Almost 50% of the growth in insurance premium over the next 10 years will come
from emerging economies like China & India. So there is ample space for insurers &
reinsurers- be it domestic or foreign to grow. The regulatory regime in these
countries is evolving & moving towards a risk-based regime. At this stage of their
development, it is necessary for them to have incentives for domestic insurers &
reinsurers to fast-track their progress & ensure that the (re)insurers which have
nurtured & played a market making role in their domestic markets be given
adequate space to develop their technical expertise (because capacity wise, capital
wise, financial strength wise- these (re)insurers will rival the best in the next 15-20
years).

In China, China Re, Qianhai Re, Taiping Re and PICC Re 3 of 4 are new, all
trying to grow in their domestic market. What are their prospects for
success?
China is a huge market & with C-ROSS coming in with its collateral requirements,
preferential capital charges for local reinsurers, you will need the local reinsurers to
step up & have a greater play in the market. There are enough opportunities for
growth in the market to accommodate these new players and these will only
increase. Chinese companies are ambitious and with the current M&A environment
you will see some strategic foreign acquisitions by them for addressing focused
market/expertise gaps. So the conditions for growth/success are there, how far
these reinsurers will come will depend on their ambitions & drive.
Is there an advantage now to being in start-up mode?
The key issue for this industry today is finding the bridge between all the risks that
are not covered yet and not being too afraid of having capital interested in being
connected to risk. (Re)-insurers are not doing enough to remain relevant and
seriously look into areas where new opportunities from coverage gaps exist.
The reinsurance industry will have missed an opportunity if it fails to make
effective use of the excess capital that has flowed into the sector. Demand for
natural catastrophe insurance is expected to increase on average by approximately
50% in mature markets and 100% in high-growth markets by 2020.
We need to take advantage of near-record levels of traditional and third-party
capital to underwrite new risks, rather than simply allow it to compete for existing
business and drive down prices. Additional capital must add to the dynamics of risk
taking because if it just drives pricing down, we would have missed an opportunity.
So yes there is definitely a need for a start-up mindset- the agility in capital
deployment, the problem embracing & disruption mode by both- the established
players and the new uber start-ups for our industry to become more relevant to
the world. You have to become innovative.
By focusing on innovation and providing solutions that expand insurance coverage,
whether through narrowing the gap between economic and insured losses for
catastrophe risks, increasing insurance penetration in new high growth economies
or creating innovative new products to provide protection for emerging risks, risk
carriers can exploit these opportunities and successfully grow their business.
Its about putting capital to work quickly, its incubating start-ups, and its
promoting underwriting innovation.
Do ceding insurers look at the best counterparty security being:
strong balance sheet; or 2) collateralized limits?

1) a

This is another way of asking if insurers prefer ILS funds or traditional reinsurance.
Swiss Re spotted several advantages the traditional reinsurance market holds over
alternative capital structures. A diversified reinsurer is more capital-efficient than
alternative capital, the reinsurer said, and therefore achieves higher returns on
capital with the same level of risk. The diversification allows capital to be used for
multiple risks.
Whereas alternative capital offers a commodity product, reinsurers provide many
more services and can deliver a more differentiated and innovative product. Even in
the core area where alternative capital has had an impact, property cat protection,
many wonder what the new capacitys reaction will be once the inevitable major
catastrophic losses occur. Reinsurers have a history of paying claims at the margin,
to preserve business connections and trading reputations, but third-party investors
are unlikely to do the same.
Even larger reinsurers are using their balance-sheet strength and technical ability to
offer more capacity and more complex, multi-class, multi-year deals. Pooling
arrangements have become more popular as smaller reinsurers look to access
business they might not otherwise see in their local markets.

Is there an optimal target capital or premium size for an international

reinsurer?
In the reinsurance sector- the market leaders in terms of spread of operations
remain the four major continental reinsurers, which have for many years publicized
their perceived advantages of global reach, diversity of account, investment
acumen and technical capability built up over many decades. Recent results
suggest they may be capitalizing more than ever on their strengths and continue to
deliver a considerable outperformance of the wider market.
A characteristic common to the international reinsurance groups should be the
diversity of their operations, providing some insulation against downturns in
individual territories and lines. They have to be balanced between life, non-life and
health as well as primary insurance and reinsurance and need to use their balancesheet strength and technical ability to offer more capacity and more complex, multiclass, multi-year deals.
There are now distinct tiers of reinsurers within our market and for the smaller
players sitting in the lower tiers it is an especially testing place to be. The smaller
reinsurers are also innovating and pooling arrangements have become more
popular as they look to access business they might not otherwise see in their local
markets.

So for an international reinsurer, its more about what they can do or offer rather
than a target premium or a capital size.
Convergence
The reinsurance market has undergone significant change since early 2012,
experiencing dynamic growth largely because of an influx of convergence capital
from institutional investors seeking access to the reinsurance space. The surge in
capital over the past 18 months has changed the nature of the sectors capital
structure as investors supply capacity through a convergence of alternative and
traditional vehicles. It has also recently exerted more significant downward pressure
on reinsurance pricing by delivering a cost-competitive source of risk transfer in
some segments. Traditional reinsurers have been forced to respond to defend their
market share.
Pension funds have been a major contributor to the growth in new capital. Indeed,
the capital supporting convergence capacity is increasingly stable institutional
money that has made a long-term commitment to the reinsurance market.
Convergence capital contributed half of the growth in global deployed reinsurance
capital from $178bn at the end of 2011 to $195bn at the end of the second quarter
of 2013.
Most reinsurers seem to be diving into the enlarged capital pool, seeking
to generate fee income by underwriting for the new capital providers, is
that a good strategy for all?
Reinsurers have resorted to a variety of tactics to combat the threat to their
business. Many Bermudians and others have forged links with the new capital,
operating as underwriting managers and gaining a fee for using the capital provided
by hedge funds and private equity interests to underwrite property cat and related
lines. The arrangements allow the reinsurers to write larger lines of business.
The influence of products and pricing available from alternative markets poses
important questions for the traditional reinsurance market. Some reinsurers have
already responded to the challenge by developing strategies to exploit the demand
from investors. Indeed, many reinsurers have hired capital markets executives and
established operating divisions of their own to attract and manage capital from
these investors. This allows reinsurers the opportunity to securitize the most capitalintensive parts of the business while providing valuable cost-efficient capacity to
their clients by leveraging their access to business and depth of underwriting, risk
management and claims management expertise. More companies are expected to
follow this trend.
The impact of convergence is challenging traditional reinsurers to reduce their price
expectations and adapt their business models to remain competitive. An increasing
number of firms are adopting managed fund strategies similar to that of the pioneer

Renaissance Re by establishing an operating division to attract and manage capital

from third-party investors.
This allows reinsurers to securitize the most capital-intensive parts of their business,
while providing valuable cost-efficient capacity to their insurance clients and
generating a new source of capital light revenue. A third-party fund vehicle
managed by a reinsurance company may not conform to the tight governance
requirements of the deepest pool of institutional investors allocating capital to the
sector, such as traditional pension funds.
The reinsurer will need to address investor expectations about fiduciary
responsibility, risk allocation, valuation, liquidity and reporting. However, the access
to business and depth of underwriting, risk analysis and claims management
experience that exists in most reinsurers affords these firms a competitive
advantage over fund managers.
Reinsurers have also used other strategies to bolster their position. They have
diversified into new lines such as accident and health and other specialty primary
business, agriculture insurance and reinsurance and, in the case of Arch, mortgage
insurance. US excess and surplus lines have proved attractive to those not spooked
by Berkshire Hathaways high-profile entry into the market last year. Over the past
few years, several Bermudian companies have either started or acquired operations
at Lloyds to give them access to a more diverse portfolio. Acquisition activity in the
sector is starting to pick up as reinsurers look for quick ways to tap into new
revenue and profitability streams.
I think the financial services industry is becoming modular and therefore it is
becoming about who is more capital efficient & agile. There is no right or wrong
strategy, in this complex environment you have to adapt to grow and any strategy
which helps you do that is the right one. However, when considering a strategic
move to a managed account platform, a reinsurer should ask: what is our
differentiating proposition for investors? The managed fund market is becoming
increasingly crowded and the need to differentiate the investor offering is becoming
a key component to any successful strategy.

A M Best takes a different view: If you cant beat them, join them seems to be
the motto but the strategy holds dangers for the traditional players, according to
AM Best. In a recent note on the London market, the rating agency warned Catlin,
Hiscox and Beazley all with third-party capital deals in place are effectively
undercutting themselves as they are offering the same cover off their own paper.
Does convergence afford a new capital structure that allows more
insurance to be sold at lower prices thus benefiting consumers generally?

The surge in capital over the past 18 months has changed the nature of the sectors
capital structure as investors supply capacity through a convergence of alternative
and traditional vehicles. It has also recently exerted more significant downward
pressure on reinsurance pricing by delivering a cost-competitive source of risk
transfer in some segments. Traditional reinsurers have been forced to respond to
defend their market share.
The growth in convergence capital has resulted in insurance-linked securities (ILS)
catastrophe risk pricing decoupling from price expectations in the traditional
reinsurance market, with some ILS products now offering the most competitive
terms for reinsurance buyers.
Alternative capital innovations pioneered by Bermudian reinsurers have produced
abundant reinsurance capacity for Florida by attracting new capital from pension
funds and other investors, helping to drive down the price of private reinsurance
across the state 15% or more on average this year. The softening US market has
also seen some traditional reinsurers offer more favorable terms and coverage such
as multi-year arrangements and early signing opportunities (at reduced pricing) in
an effort to safeguard their core relationships. Alternative markets have been more
successful in providing supplemental coverages in the US such as top and
aggregate and reinstatement premium protection (RPP). While the impact of
convergence has been less marked in non-US property catastrophe classes, general
downward rate movements have been observed for property business in several
other regions.
So yes, the consumers are benefitting & it is a buyers market and will be for some
more time, however, when the next big catastrophe loss happens, what shape or
direction the market will take remains to be seen.
Can alternative capital entities successfully dive into primary insurance
markets?
The innovation and evolution of the insurance-linked securities (ILS) space has seen
its capacity get ever closer to primary insurance risk, supported by access to more
detailed data and improved risk selection.
Historically, ILS capacity has been utilized by insurers, reinsurers, and increasingly
non-insurance entities, as part of the renewal process for reinsurance and also
retrocessional needs. However, the increased sophistication, willingness and
understanding of ILS investors and market players to expand its reach and influence
within the overall insurance and reinsurance landscape, a softening landscape, and
enhanced data and analytic capabilities has driven a desire to get the capital as
close to the risk as possible, potentially reducing costs and increasing efficiency.
The whole chain from the end investor through to retail purchaser insurance is
starting to become ever more proximate. Were finding vehicles and ways of

converting risk, which are allowing the end investor to reach the primary consumer
in ever closer ways.
In recent months the softening reinsurance environment has persisted, continuing
to pressure rates, limit growth and profit opportunities, fuelling re/insurance
industry-wide competition and a wave of sector consolidation. One of the ways ILS
market participants can reduce their reliance on the more traditional reinsurance
coverage available at renewals, and to mitigate the impacts of a challenging
landscape, is to source and underwrite risk more directly, essentially jumping down
the chain and eliminating the need for intermediary assistance.
One example of where this is happening in re/insurance and capital market
investors are getting their capital much closer to the ultimate source of risk in the
primary market, is with the MGA and fronting trend. A number of companies are
providing MGA services or fronting to ILS fund managers and investors, helping to
channel risk from the primary market more directly to the ILS portfolios where
efficient capital resides.
As ILS capacity becomes increasingly more proximate to the primary insurance risk,
it breaks down the value chain, effectively taking steps out of the transactional life
of a risk and removing steps of intermediation, thus further increasing efficiency of
the risk transfer and capital used.
One of the major improvements that gives us as a representative of the investor
market is access to much better, much more granular data and the ability to select
much more granular risk, a much more detailed view on the geographic risks and
the line of business risks that were taking on behalf of our investors, said Butler.
An interesting point, as in the past when ILS has mainly underwritten at the
retrocession or reinsurance level, its much more difficult for firms to select certain
tranches or types of risk for investors, whereas being closer to the risk enables the
ability to better optimize portfolios. This makes the risk selection process much
easier as the firm can use technology and analytics in a greater and more
comprehensive manner than previously.
Looking forward the re/insurance and ILS space will see a continuation of this trend,
as the overall market looks to access closer to the primary insurance side than
before. Its worth noting that the more ILS capacity and its providers essentially
jump the value chain and access the risk much closer on the primary side, it
reduces their need for intermediaries such as the reinsurers and insurance and
reinsurance brokers.
New Markets

Cyber risk headlines every day and dramatic growth in cyber risk
premium. How do you evaluate the risks and opportunities of the cyber
(re)insurance market?
The modelling of cyber risks in the insurance industry, much like the awareness of
cyber security issues in the broader economic environment, is very much in the
early stages of development. So much so that at this point in time, none of the
major commercial risk model vendors has a model for cyber risk, although the two
main risk modelling companies AIR Worldwide and RMS have stated their
intention to develop such models.
More recently, however, the pressure to develop better technology for modelling
cyber risks, particularly in the London market, has intensified as a result of rise in
the number of cyber-attacks on high-profile commercial and other organizations and
the sharp increase in the premium levels generated in London through the writing of
cyber risks over the past year or so.
While the US has been the worlds largest cyber insurance market for some time
and an important frame of reference for other markets, particularly the UK and in
Europe, the main developments driving the market are fairly recent. A notable shift
has taken place in the US market over the past 18 months, according to Nate
Spurrier, director of business development at IDT911, a US-based company that
provides cyber security, risk management and data breach remediation services to
businesses. IDT911, which expanded its operations into the UK and Europe last
year, entered into a partnership arrangement with Aviva in June to provide data
breach prevention and remediation services for Avivas small and mid-market
business clients in the UK.
US companies, Spurrier says, are increasingly aware and selective of each cyber
product's differentiating factors. For example, there is now a much greater
awareness of which products represent real value for a companys specific needs
and what the all-important excluding factors are. People and organisations, for
the first time, have an opinion on what kind of cyber policy they need
instead of whether they need a product at all. From the insurance
companies point of view, where cyber was previously relegated to the
status of a product that is only needed by Fortune 500 companies, we are
now seeing the fast adoption of cyber/privacy add-ons to existing.
Indeed, both AIR Worldwide and RMS have this year stepped up their engagement
with the insurance market in the race to develop a functional cyber risk model, with
one most likely to appear over the next three to five years. RMS, for example,
recently teamed up with the cyber risk research group at the Cambridge Centre for
Risk Studies to explore how cyber catastrophes might occur. The team recently
partnered Lloyds to produce the Business Blackout scenario, estimating insurance
industry losses from a hypothetical cyber-attack on the US power grid.

According to Scott Stransky, manager and principal scientist at AIR Worldwide, while
the company has been looking at the modelling of cyber risks (initially within the
context of a small internal working group) for about two years now, it was only over
the course of this year that the size and the scope of the working group was
extended and AIR started discussions with 40 insurers, with more than half of them
based in the London market, about making available their cyber exposure data to
help with the development of the AIR risk model.
We had done some research and we had built some initial prototypes before we
approached our clients to tell them what we are doing and that we would like them
to be our data partners," he says. "They were very interested in what we were doing
and were very happy to meet us to talk about our modelling approaches. We told
them we could build the best theoretical model, create the best possible simulated
events and map as accurately as we could the possible areas of vulnerability, but
without real data, without real exposure, loss and claims data from companies
active in the market, we were never going to be able to build a model that came up
with real loss numbers."
To date, several companies have signed non-disclosure agreements (NDAs) with AIR.
I cant tell which companies they are, but they will share their exposure data and
loss experience with us, Stransky says. AIR will run the data through the prototype
of its cyber risk model, which Stransky says has gone through several versions over
the past two years. The great thing for those companies is we will be able to
provide them with results as early as next year. This is a huge competitive
advantage for them because our model wont be done for a few years. We think the
five-year timeframe that has been mentioned is a little bit too conservative. We are
thinking more like two to three years. But if you are one of one of our data partners,
you are going to start to see results as early as next year. You will have a year-anda-half heads-up over your competitors. That is why companies are willing to share
their data. It is all confidential and they get enormous benefits from it.
No consistent scenario
As things stand, the demand for a cyber risk model in the market is huge. According
to Laila Khudairi, cyber underwriter at Tokio Marine Kiln, there is at present there is
no consistent cyber scenario modelling done in the market apart from Lloyd's
annual data collection exercise. Phil Mayes, head of technology and cyber
underwriting at ANV, says there are a number of specific underwriting
considerations in terms of profiling a cyber risk. Are you looking solely at the
catastrophe element of the risk or just at the immediate exposure? And
then, are you looking at first- or third-party exposure? he says. Another
issue for the market, he adds, is at present the catastrophe modelling of cyber of
risks, such as it is, is driven by US data, which is predicated on the aggressive US
legislative environment. This, he says, is not very helpful for those underwriters
looking to develop a book of non-US business.

Tom Draper, technology and cyber practice leader at Arthur J Gallagher,

agrees one of the big challenges facing the market at present is a lack of
accurate historical data, which is further complicated by the US-focused
nature of the available data. The fact is we are underwriting a future risk
and so cannot just rely on what a US retail breach cost two years ago, he
says.
Stransky concedes the reliance on US data is an issue for the market but he points
out more than 80% of global cyber insurance premium income is generated in the
US market. While London is probably the most important centre for the underwriting
of cyber risks, most UK and European insurers are largely insuring cyber risks in the
US. So while more than half the insurers that are working with us as data partners
are based in the UK, most of the cyber risks they are underwriting are based in the
US, he says.
Transformation
Things are changing in the UK and Europe in terms of companies being forced to
notify their customers and the authorities about data breaches and as a
consequence allow more data into the public domain. While EU data regulators have
always been active, they have not been as punitive as their US counterparts to force
business to comply with their data privacy obligations.
Spurrier says a renewed political will at a European institutions-level has seen major
steps taken to change this approach. A new set of requirements are being created
through the General Data Protection Regulation [GDPR] and Directive currently
under negotiation between the European institutions. The mandatory enforcement
of the GDPR will act as a catalyst for data protection to garner even more attention
at a decision-making level in all organisations that handle data. Increased fines of
up to 5% of global annual turnover are also likely to make businesses more alert to
their data protection responsibilities. The European regulation is expected to be
finalised at the end of this year, before a two-year grandfather period begins. It is
likely the new rules will be fully implemented by the start of 2018.
Monitoring aggregation
There is general agreement monitoring the aggregation of cyber risks represents
the biggest challenge for the market. Khudairi says one of the main challenges is a
catastrophic cyber event has not yet happened, so it is hard for underwriters to
model what the impact could be. One such catastrophic threat is the risk of
companies using common vendors, such as anti-virus software providers. If there
was an attack on a vendor it could affect all the companies that use the third party.
There are always elements of aggregation that cant necessarily be modelled. At the
moment, working with the right consultants and specialists to make well-reasoned
assumptions is the best that can be done."

She does not see the lack of historical data as a major concern, mainly
because the technological and legal landscape is changing at such a fast
pace it is hard to make assumptions for the future based on past
experience. This also applies to the cost of doing business, which can change
over time for example, if new notification and credit monitoring companies come
to market, that is likely to push the price down, Khudairi says.
Geoff White, underwriting manager for cyber, technology and media at Barbican
Insurance Group and chair of the Lloyd's Market Association cyber group, also
emphasises the rapidly evolving nature of the cyber risk landscape. This is not only
in terms of our understanding of the risk exposures, but also in the changing face of
exposures as new technology is harnessed by both business and hackers alike," he
says.
"For example, the increasing benefits of the cloud are being harnessed to aggregate
healthcare information, which enables the medical community to have real-time
access to a patients notes anywhere in the world. Clearly, this is beneficial for the
patient, but also represents an attractive target for a hacker.
"Similarly, the 'internet of things' has the potential to be a huge enabler in
our lives, but likewise carries potential risk as our private information
becomes ever-more readily available to a potential hacker. More than any
other line of business I have worked in, this is one that is continually
evolving and, as such, underwriters have to keep ahead of change to
ensure we avoid some of the systemic events that have affected other
classes.
Andrew Coburn, senior vice-president and technical lead of cyber risk solutions at
RMS, says the key issue for insurers is not so much claims frequency as claim
severity estimating their probable maximum losses or tail risk. The main
challenge is in identifying and managing cyber exposure. There is no accepted
method of categorising and quantifying cyber exposure. Historical precedents are
indicative of where future extreme events might cause large numbers of insurance
claims, but do not provide examples," he says. "Extreme events have to be
assessed from a detailed understanding of the technical environment and threat
landscape of cyber activity.
He says the focus of the ongoing Cambridge and RMS initiative is to develop a cyber
exposure data schema which, he says, needs careful review and discussion with
many insurance industry players.
Alternative strategies
In the absence of a standard market cyber risk model, insurers, brokers and some
third-party companies look to alternative strategies and solutions. For example, ANV
is in the process of developing a suite of risk reduction measures it will make

available to all clients, according to Mayes. His personal opinion is a genuine cat
exposure on the scale of a Californian earthquake does not exist within the cyber
insurance market, but he believes there are clusters of cyber risks that need to be
monitored. "Developing meaningful data for cyber is identical to the process
employed for all new lines. Models will no doubt be highly conservative, writing to a
[combined operating ratio] that is in excess of expected loss pick to build the
[incurred but not enough reported] reserve.
Mayes also believes new exposures can be controlled via the language of the policy,
through data capture and by anticipating the impact of such exposures. It is a
fallacy that exposures equate to insurable losses. No matter how complex the risk
environment, the filter of policy language will apply, he says.
According to Alice Underwood, Willis Re executive vice-president and head of
analytics at Willis Re North America, the demand from the market for solutions to
model cyber exposures has prompted Willis Re to release its own cyber risk model,
Prism-Re, which she says enables insurers to quantify and manage their portfolio
exposure to data breaches. The idea, she says, is to assist Willis Res insurance
company clients in understanding the total risk in their portfolio of cyber policies.
According to Underwood, there is no comparable tool in the market. While many of
our clients who write cyber policies have tools for analysing the risk of a particular
insured, we find many of them struggle to assess the aggregated risk of the
portfolio. This information can help them optimise their cyber portfolio, just as
companies use property catastrophe models to optimise their property portfolios.
The results are useful for enterprise risk management and capital allocation. And
Prism-Re can also help clients make decisions about reinsuring their cyber
portfolio.
Unlike the main modelling agencies, Willis does not license Prism-Re to clients. It is
solely for our use in assisting our clients. We use it on their behalf, Underwood
says.
Outlook
Suki Basi, managing director of the Russell Group, a UK-based risk management
software and services company, which counts a number of specialty lines insurers
and reinsurers such as Endurance and Munich Re among its clientsl says its
enterprise risk solutions can help address the absence of a workable standardised
cyber risk model.
We see cyber as an enterprise risk and hence in the same area of focus as political
risk, supply chain and trade credit," Basi says. "Our risk management software and
other solutions are positioned to serve such risks. Typically, specialty classes
operate within a risk silo, while cyber and the other enterprise risks I mentioned are
cross-silo or cross-class.

"We would be looking to identify and accumulate at the appropriate levels needed
to effectively model cyber as we currently do supply chain, political risk or trade
credit exposure. We think in the future cyber risk sets will be available which will
adequately reflect the nature of historical events and could be licensed independent
of any software model needed to run them."
White says the cyber risk model will continually evolve over the next few years,
given the constantly changing nature of the threat environment. As more data
becomes available due to the mandatory notification of breaches that will follow as
a result of worldwide changes in legislation, we will be able to use that data to
augment our current methodology," he says. "This is only part of the puzzle,
though; changes in technology will play an important part, as will changes in human
behavior as a result of the changes in technology. It certainly promises to be an
interesting time for this class of business.
Heres a Stephen Catlin quote: In China, there are at least 10 cities
which, in 10 years time, will each have an economy of a similar size to
Floridas and are prone to both wind and earthquake risk. These will need
re/insurance support and the reality is that extra capital will be needed
over such emerging risks.
Do you agree we will actually need more
insurance capital to meet market needs?
A possible growth area for reinsurers is definitely, providing cover for emerging
risks. Reinsurers have typically played an important role in helping the global risktransfer system deal with new or unexpected risks. The launch of the first Jumbo
jet in 1970 marked the arrival of highly expensive aircraft carrying large numbers
of passengers over long distance. With no experience record to point to, the airlines
could have been stuck for financial protection but the insurance market rose to the
challenge to provide cover, backed by reinsurers. Cover for the many emerging risks
is likely to follow the same path as reinsurers use their skill and extensive
experience to address cyber, financial/banking, environmental, mega-city, megabuilding and a host of other new risks.
Its putting capital to work quickly, its incubating start-ups, and its promoting
underwriting innovation. However, what happens next is not entirely predictable.
The famed economist, Joseph Schumpeter, described what we are all witnessing as
the essential process of creative destruction. It is an inevitable, incessant process
of revolutionising, mutating and destructing (his words) economic structures the
process of creating a better mousetrap in this case, one process devoted to
managing risk.
Today, there are those who focus on areas such as: the turmoil surrounding mergers
and acquisitions; the angst about driving a new soft market; regulators having
trouble keeping up with rapid change; and the uncertainty created by the quickly
changing conditions.

In the long run, however, all these challenge areas are about putting capital to
work. Investors want to take on insurance risk and this is an important part of
evolving insurance markets to handle current demands.
Our goal has to be geared towards expanding insurance markets to put
this capital to work both in the developed world and the developing world. In
the long run, insurers, reinsurers and their customers will all be beneficiaries of an
economy that increases insurance penetration to better manage risk.
In the UK, there are two great examples of increasing private sector risk transfer
through reinsurance purchasing, in the form of Pool Re (for terrorism risk) and Flood
Re (for flood risk).
Private or public announcements indicate Pool Re just signed a deal to purchase
1.8bn ($2.6bn) in reinsurance for the first time ever and a Flood Re consultant
had previously told me that it would purchase up to 700m in reinsurance in its
early years, with that amount potentially tripling as exposures grow.
In the US, we have excellent examples in the Florida Citizens Property Insurance
Corporation, which has now depopulated itself by successfully transferring 56% of
its policies to the private sector and reducing potential debt burden with an
expected $4bn risk transfer purchase. This risk is being moved into the Florida
domestic home insurance market and into the reinsurers that support that market,
which in itself is an additional example of boosting private sector risk bearing.
Also in the US, the new extension of the government terrorism risk program does
create an opportunity for incremental growth in reinsurance markets. Similarly, the
US National Flood Insurance Program affords a great opportunity to transfer as
much as $10bn in risk to reinsurance markets if the policymakers can get their
heads around this opportunity.
Key Point: We as a business are only covering 20% of the risks, if get the other 80%
of the risks currently un-insured we will require all the alternate capital and much
more. We need to stop thinking about alternate capital as a threat and start thinking
about the protection gap and how to effectively & efficiently utilize and put the
alternate capital to work. Alternate capital is not the problem, it is the solution to a
problem that hasnt risen yet.
Much has been written about closing the Protection Gap, broadly defined
as having more of the economic costs of natural disaster events actually
being insured and reinsured. Is progress being made in the both the
developed and developing world on increasing insurance penetration?
By modelling the global loss potential for earthquakes, flood and windstorms, Swiss
Re has calculated the world is running an annual protection gap of $153bn for cat
losses, assuming a year of average major loss. In financial terms, the worlds three
largest economies the US, Japan and China account for most of the deficit
although they are not the most exposed countries.

Beyond the gap for natural disaster loss exposure, Swiss Re found total
underinsurance of $68bn for non-cat, general property losses. That gives a global
property protection gap of $221bn a year. Thats the level of expected claims
which could have been pre-funded by a wider risk community rather than inflicting
financial hardship on individual families, corporations and government entities,
Swiss Re commented.
Closing this gap offers clear growth potential for the insurance industry but
combating underinsurance is no easy task. Swiss Re cites a host of reasons for
underinsurance, including perception of risk, insurance knowledge, affordability,
reliance on government post-disaster relief, lack of trust in insurers, limited access
and ease of doing business.
And insurers cannot work in isolation. Governments play an important part in areas
like regulation and risk information. For issues such as terrorism or high-risk flood
zones, government involvement is needed to extend the boundaries of insurability,
according to Swiss Re.
Pre-event sovereign risk transfer is better than post-disaster financing, Swiss Re
says. Among the advantages of insurance-type arrangements for countries are
guaranteed access to funds for recovery, speedy delivery through parametric
solutions, no payback obligation and a reduced need to divert own funds from other
projects to affected areas.
Although natural disaster underinsurance has implications for developed
economies, the most vulnerable countries tend to be less developed ones, as rating
agency Standard & Poors (S&P) reported in a recently published research note.
At a national level, foreseeable extreme major disasters could lead to a
downgrade of 2.5 notches to the sovereign rating of an affected country,
the agency said. These events can hit economic output and growth potential as
well as external finances through hampering export performance and requiring
additional food and reconstruction-related imports, the agency said.
They can place a heavy burden on public finances, leading to rising debt and
deficit ratios. Inflationary pressures are likely to rise and commercial banks could
face deteriorating asset qualities as the value of collateral assets and businesses is
hit.
It comes as no surprise countries in Asia and Latin America are most at risk in terms
of relative damage. A one-in-250-year tropical storm and surge event striking the
Dominican Republic could lead to a sovereign downgrade of 2.5 notches and an
earthquake with a similar return period hitting Japan could result in a 2.1 notch
reduction, S&P said.
Of particular relevance for the insurance industry is how insurance lessens
the impact. Assuming insurance cover of 50% for the relevant damage, S&P found
the hit to a countrys growth would be about 40% less than if no insurance was in

place. For S&P, insurance reimbursement of insured losses accelerates the

restoration of the damaged assets, especially productive capacity and
infrastructure, which in turn reduces indirect economic losses in the period following
the disaster. Without insurance, reconstruction costs fall back on property owners.
The agency noted how much of a contribution insurance had made in New Zealand
following the earthquakes of 2010 and 2011, absorbing 80% of the cost, much of it
provided by the New Zealand Earthquake Commission. Similarly, Swiss Res latest
disaster risk financing report draws attention to the comparison between the New
Zealand events and the earthquakes that hit Haiti at about the same time. The
insurance payment for the Haiti events covered less than 1% of overall economic
damages and the quakes produced losses of $8.5bn, more than the countrys total
gross domestic product (GDP) of $6.6bn.
Cities are a particularly interesting example of how new and changing risks combine
with increased exposure to provide potential opportunities for the insurance
industry in both developed and underdeveloped countries. Lloyds City Risk Index
2015-2025, based on research from the Cambridge Centre for Risk Studies, found
that $4.6trn of projected Gross Domestic Product (GDP) at 301 of the worlds largest
cities is at risk from a total of 18 manmade and natural threats. More than 70% of
total GDP at risk relates to emerging economies as their cities are often highly
exposed to a single natural catastrophe. Earthquake represents more than 50% of
GDP at risk in Lima and Tehran, for example.
Catastrophe bonds have the potential to provide the world with access to the
$200-$300 billion of capital required to help countries combat climate change
shocks. The capital markets and ILS have a huge role to play, as traditional
insurance and reinsurance market capacity is lacking when you see the significant
numbers required to begin to bridge the gap.
The UN/World Bank/Insurer partnership the Insurance Development Forum
will try in the next five years to promote micro-insurance, create
public/private insurance programs and boost risk analysis knowledge in
the state and local government realm in order to improve infrastructure
resilience.
How important are these actions?
Are these charitable
activities or profit-making activities for insurers?
At an international level, the World Bank has been the most important organisation
in co-ordinating and promoting efforts, by providing loans and other assistance to
vulnerable countries but also encouraging innovation in risk transfer.
Last year, the World Bank committed $42.5bn in assistance, of which $19bn was
channeled through the International Development Association, typically helping
poorer countries, and $23.5bn through the International Bank for Reconstruction &
Development (IBRD), which tends to help middle income countries. The size of the
World Banks disaster risk management assistance has increased about 20%

annually over the past few years and totalled $5.3bn in fiscal 2014. Table 3 shows a
sample of recent disaster-related assistance provided by the World Bank.
World Banks disaster risk financing projects over the past decade center on three
areas taking in regional pooling arrangements, contingent loans and risk transfer
initiatives that access alternative capital through insurance-linked securities and
other means.
The Caribbean Catastrophe Risk Insurance Facility, now known as CCRIF SPC,
has been providing governments in the region with parametric cat protection since
2007, adding excess rainfall cover in 2013 to its existing range of perils of hurricane
and earthquake risk. The facility has this year expanded its remit to include
countries in central America, with Nicaragua becoming the first government in the
region to join. Since 2007, the facility has made 13 payouts totalling $38m to eight
governments, the most recent being $2.4m to Dominica following Augusts tropical
storm Erika, which triggered the countrys excess rainfall policy. Last year, the IBRD
directly issued a cat bond to protect CCRIF, providing $30m of parametric protection
for quake and hurricane losses until June 2017.
The Pacific Disaster Risk Financing & Insurance Program has a similar brief
to develop natural disaster risk transfer in the region, and an associated cat risk
insurance pilot started in January 2013, attracting Samoa, Tonga, the Marshall
Islands, the Solomon Islands and Vanuatu as initial members. The Cook Islands have
joined since. The scheme protects against quake, cyclone and tsunami damage and
cover has increased to $67m from $45m. The scheme sees the World Bank act as
intermediary between the Pacific countries and a consortium of companies
consisting of Sompo Japan, Mitsui Sumitomo, Munich Re and Swiss Re.
The World Bank also acted as an intermediary between the government of Uruguay
and the reinsurance sector in a $450m weather derivative contract completed last
year that reacts to a combination of high rainfall levels and the price of oil. Swiss Re
Corporate Solutions said it accepted a significant amount of the underlying risk.
Work is going on in many other countries. Insurance interests in the Philippines
are working with the International Finance Corporation, a World Bank entity, to
develop a residential catastrophe insurance pool, increasing the number of
households that have protection. Calculations indicate a cat risk insurance facility
for local governments in the country could lead to a 20% reduction in premium and
a 50% reduction in capital required to withstand an extreme event. The states
social insurance institution would act as the insurer for such a scheme.
Just launched is a Pandemic Emergency Facility (PEP), promoted by the bank,
the World Health Organization and others to address how to react to events such as
the recent outbreak of Ebola. That epidemic has hit the GDP of the three most
affected countries Sierra Leone, Guinea and Liberia by $2.2bn this year.
The World Bank offers the Multicat arrangement for Mexico and the African Risk
Capacity (ARC) initiative as models of how insurance is used to pre-finance

sovereign risks that the PEP could emulate. The ARC scheme, set up in late 2013 by
the African Union with funding from the UKs Department for International
Development and other governments and agencies, brings cover against drought
using a modelled loss index based on satellite rainfall data. This year the scheme
provides nine African countries with total cover of $192m, of which more than $70m
is reinsured. Munich Re uses its New Re unit to offer reinsurance capacity. In
January, ARC paid $25m to three countries in the Sahel region following drought.
The scheme is looking to extend its remit to cyclones and floods next year.
Outside the area of risk transfer, the World Bank offers assistance under two
deferred drawdown option (DDO) schemes. In the case of its Cat DDO assistance,
vulnerable countries have secured up to $500m or 0.25% of GDP, whichever is less,
at competitive rates to be accessed followed declaration of a state of emergency
caused by a natural disaster. To access the funds, countries have to demonstrate
they have developed an effective disaster risk management plan. Earlier this year
Peru entered into its second Cat DDO deal following agreement on a $400m loan.
For the insurance industry, the challenge is to play a full part in
developing schemes that extend the insurance of natural disaster risks,
moving as much of the risk to the private sector as possible.
These are not charitable initiatives, these are reason why we exist as a sector- to
make societies around the world more resilient to risks. If we invest in them
now, they will become our customers for other products later thereby adding to
the market growth.

Regulation
The IAIS continues to do research with regard to reinsurers and systemic
risk. Is there something inherent in the reinsurance business that means
a professional reinsurer should qualify as a G-SII?
Banks Vs Insurance: Systemic Risk
In this extract taken from The Geneva Associations Geneva Papers on Risk and
Insurance, Mr Christian Thimann from AXA Group compares the differences and
similarities of banks and insurers with regard to systemic interaction and explains
why the three concepts for controlling systemic risk capital, leverage and loss
absorption capacity are not suitable in insurance.
That insurance companies are different from banks is well known. But it is less
known how these differences should apply to the regulation of insurance companies
when it comes to controlling possible systemic risk.
Banks and insurance in systemic interaction compared

Specifically, there are four main differences and two similarities between insurance
and banking with regard to systemic interaction.
Institutional interconnectedness
The first key difference between banks and insurers with regard to systemic risk is
that banks operate within a system, namely the banking system, while insurers do
not. Banks are institutionally interconnected through unsecured and secured
interbank lending. The fact that there is a central bank demonstrates further that
banks function, and can only function, within a system. Insurers are not
institutionally interconnected; they are stand-alone operators in institutional terms.
There exists no insurance system and no central insurer comparable to a
central bank.
Maturity transformation
Banks engage in maturity transformation combined with leverage; they transform
short-term liabilities into longer-term assets. Insurers do not engage in maturity
transformation. They pursue a liability-driven investment approach, trying to match
their asset profiles with their liability profiles. Since they are funded long-term,
insurers are essentially deep-pocket investors. This makes them react very
differently to downward market pressure compared with a short-term funded or
leveraged investor.
Liquidity risk
Liquidity risk is inherent in banking, but not in insurance. Banks risk being liquidityshort, because deposits are the largest item on banks balance sheets and these
deposits are predominantly short-term, withdrawable at will, and held exclusively by
trust.
Insurance liabilities are less fugitive and insurers are actually liquidity-rich. The
liabilities for insurance of general protection, property, casualty and health are not
callable at will. They relate to exogenous events that policyholders do not influence.
The part of liabilities that are theoretically callable concerns those parts of life
insurance business that are not annuities. But there are often penalties for early
withdrawal, and tax benefits might vanish.
Money, credit and payment function
Banks deal with the payment function: they create credit and their liabilities
constitute money. As money is by definition systemic, the money creation by banks
is the core of their systemic nature, and the disruption or risk of disruption to this
function has immediate adverse implications on the real economy. The second
unique role commercial banks have is that they organise the payment function,
coordinated by central banks to do so.

Insurers liabilities do not constitute money but represent an illiquid financial claim.
Moreover, insurers do not provide essential financial market utilities and are less
integrated into the financial market infrastructure, and often have no formal links to
their national central banks. In particular, they are not an organisational part of the
payments system, where the smallest interruption would cause turmoil for the
economy.
Two similarities between banks and insurers
The role as financial intermediaries
Just like banks, insurers are financial intermediaries as far as their life insurance
business lines are concerned. Their liabilities represent financial claims for
policyholders, and their assets are predominantly financial assets. Insurers collect
savings, intermediate between savers and investors, channel funds, and fulfil a
function of capital allocation in the economy. They are indeed important sources of
funding for the real economy.
The role as investors
Just like banks, insurance companies are large investors in financial markets. They
receive insurance premiums against a promise to cover adverse events and carry
savings forward. The premiums are invested in a diversified portfolio of assets,
encompassing government and private sector bonds, equities, loans, infrastructure
finance, and other assets.
The roles of leverage, capital, and loss absorption capacity and implications for
systemic regulation of insurance.
Classification of insurers as SII (Systematically important institution):
The chief enemy of systemic risk control is leverage. Leverage is inherent in
banking and quasi-absent in insurance.
For insurers, the largest liability consists of policyholder reserves. Insurers do not
raise debt to purchase financial assets to cover liabilities towards policyholders.
They do so mainly to finance mergers and acquisitions and to a lesser extent to
establish a cash buffer if needed or to buy fixed assets. For insurers, a leverage
ratio would better not be defined as equity over assets (as for banks) but as equity
over debt, or the inverse, which is often referred to as the gearing ratio.
This difference has major implications for regulation. For banks, capital
surcharges can actually control leverage because they slow down asset acquisition,
also by slowing credit growth; this is the process of deleveraging. Insurers can
reduce the debt gearing but they cannot reduce their insurance assets because this
would imply cancelling insurance contracts with existing policyholders, which is
generally not allowed.

The linchpin of bank systemic regulation is capital. In addition to restraining

leverage, higher capital charges for banks raise the costs of balance sheet growth
and augment the immediate loss absorption capacity of individual institutions to
shocks, which in turn limits the pass-through of such shocks to the system. To the
extent that liquidity risks begin to materialise, banking capital can help stem an
initial outflow by helping to tap market funding or central bank resource, for which
sufficient capital levels are a precondition. While robust capital levels do not protect
depositors directly, they can be seen as providing a first protection against deposit
outflows or other liquidity shortages.
In insurance, capital serves essentially to ensure that the last policyholder gets
paid. First all assets are wound down, which typically can take many years, and to
be sure that there are enough assets to cover eventually all liabilities also under
adverse market conditions, regulators demand more assets than liabilities from the
outset, which is what establishes capital.
Hence, whereas in banking, capital enters the sequence of adverse events at the
beginning, in insurance it enters the sequence of adverse events at the end. This
difference has an important implication for systemic regulation because it changes
the effectiveness of capital surcharges. Raising capital levels for banks increases
their buffer to withstand shocks and therefore helps avoid the chain of systemic
contagion when it unravels. Raising capital for insurers, in contrast, essentially
means that there are (even) more assets available to cover the liability stream than
otherwise, but has no crisis prevention or stabilisation function because those
assets would be used at the end of a potential wind-down. In that sense, capital in
insurance does not buy time to handle a sudden shock, as it does for banking.
Loss absorption capacity
For banks, the loss absorbency on the liability side is mostly confined to the equity
tranche. There have been recent market and regulatory initiatives to raise the
degree of loss absorption through debt contracts converting into equity (conditional
convertibles or CoCos) and through the formalisation of bail-in rules allowing for the
write-down of subordinated debt, but these efforts remain limited in scope.
In insurance, the bail-in is built in there is an inherent loss absorption capacity in
the form of beneficiary participation in a significant part of life insurance contracts.
In these contracts policyholders participate in the gains and losses of the
investments linked to their policies. Hence, there is a built-in loss absorbency
function in insurance on top of the equity tranche.
In practice, when a bank is hit with a loss on its asset side, there is very little loss
absorbency on the liabilities side because all deposits are redeemable at par (and
their value does not fluctuate with the market). In insurance, parts of the
policyholders represent investments in participating contracts, where policyholders
participate in financial market movements on the upside as well as on the

downside, at least to a certain extent. This is why there is higher loss absorbency
(and benefit participation) in insurance compared with banks.
The FSB/IAIS framework to deal with systemic risk
The regulatory strategy that the FSB has laid out for the implementation of
insurance regulation foresees virtually the same three-pronged approach that was
applied to banks: enhanced supervision at group level; the preparation of risk
management and recovery plans; and the call for higher capital requirements. But
as has been argued above, capital does not function in the same in insurance as in
banks. Capital surcharges therefore do not control systemic risk.
If one wanted to control systemic risk in insurance, the following four-pronged
approach would be more effective:
Limit and regulate non-insurance activities, scrutinising especially activities that
would entail leverage combined with maturity transformation;
Control whether insurance products are well managed (through pricing and
reserves) and whether risks are appropriately hedged;
If derivatives are used for hedging, make sure that they are sufficiently
collateralised so as to avoid cascading of risks in case of counterparty defaults;
As for balance sheet management tools, such as securities lending, limit the
volume to a tolerable share of the balance sheet.
This approach would not only be effective but also ensure that capital is available
for long-term investments and not double-layering on reserves that should already
be sufficient to deal with risks, especially in a Solvency II type framework where
capital is determined on a stressed basis and an encompassing risk scenario that
already involves aspects of systemic risk.