ILS capital focuses Bermuda reinsurers on closing Protection Gap: ABIR’s Kading

by Artemis on June 6, 2016

The presence of alternative capital in the global reinsurance marketplace has enabled Bermudian insurers and reinsurers to be innovative in their efforts at closing the protection gap, according to Bradley Kading of the Association of Bermuda Insurers and Reinsurers (ABIR).

The ABIR recently announced the 2015 underwriting performance of 19 of its 22 member re/insurers, which reported net income for the year of $8.7 billion, and $72 billion of global gross written premiums on a capital and surplus base of $96 billion.

President and Executive Director of the ABIR, Bradley Kading, underlined that market reports show that the global, commercial insurance and reinsurance industry remains soft, with alternative capital continuing to provide both an opportunity and a challenge to traditional markets.

“ABIR members underwrite risk for their own balance sheets and for alternative capital partners. The additional capital has focused ABIR members on how to close the Protection Gap –to increase insurance penetration in both the developed and developing world,” said Kading.

Bermuda has for some time been proficient at facilitating entry of insurance-linked securities (ILS) capital and structures, and as noted by Kading, one of the opportunities the influx of third-party reinsurance capital has provided Bermuda domiciled re/insurers is with a greater ability to underwrite more risk.

The global protection gap (the difference between economic and insured losses post-catastrophe or natural disaster event) remains one of the most detrimental factors to the overall improvement of global disaster resilience, described by some as the big industry’s failure.

But as well as a the obvious challenges related to increasing insurance penetration levels in underserved and developed parts of the world, the protection gap is also an opportunity to insurers, reinsurers, and ILS markets to innovate and ultimately bridge the gap.

Speaking to Artemis, Kading explained that two-thirds of ABIR members manage capital for alternative capital providers or underwrite risk for them in one way or another, and that while its presence has contributed to lower returns, on the other hand, “more capital is available to underwrite more risk.”

The challenge, it seems, is utilising the wealth of alternative reinsurance capital alongside traditional capital to provide greater protection against underserved risks in both the developed and developing parts of the world.

“ABIR members will work with the Insurance Development Forum on ways to put this capital to work in partnerships with clients, international organisations and governments.

“ABIR members continue to be at the forefront in analysing climate risk and in developing new products in growing fields such as terrorism, cyber risk and liability insurance product needs for technologies,” said Kading.

The persistent entry of ILS capital, and its increased maturity and sophistication as an asset class has enabled ABIR member re/insurers to focus on closing the global protection gap, says Kading, via the use of innovative structures that utilise the abundance of efficient capital.

Bermuda re/insurers, like the broader marketplace are under pressure from the range of headwinds facing the industry, resulting in thinner margins and less profitability, as evidenced by the ABIR members’ reduced 2015 profit when compared with previous years.

However, the use of alternative reinsurance capital to support and access new peril regions and close the protection gap, provides Bermuda with an opportunity and a means to create additional revenues.

Kading told Artemis that ABIR members have moved beyond “allocation of capital to property and catastrophe markets and are experimenting with liability insurance and reinsurance” and, certain ABIR re/insurers partake in extensive fronting arrangements for providers of alternative capital, while others use ILS for their retrocessional needs.

Third-party, or alternative reinsurance capital has taken on a significant share of property insurance and reinsurance risk in the coastal U.S., underlined Kading, adding that it can also be utilised in larger way on developed and developing markets, something Bermuda is keen to focus on.

In the developed world, Kading explained to Artemis where ILS capital could and should play a greater role.

“The U.K. terrorism pool and Flood Re will be able to put traditional and alternative capital to work; Canada is working on a flood program to increase utilisation; in the U.S. the NFIP intends to a reinsurance pilot project in place by yearend; every week in the U.S. an insurer seems to launch a new private sector flood insurance product; cyber business is growing rapidly and the availability of alternative capital allows for capital restraints on programmes to be adjusted or risk to be ceded; the TRIP program may be redesigned in such a way as to allow more risk to be transferred to private reinsurer.

“U.S. earthquake penetration is very low, will alternative capital allow for new products which may be more appealing to U.S. consumers? Mortgage risk is now increasingly being written in the insurance and reinsurance markets with some backing from alternative capital providers. The reconstructed U.S. Exlm bank comes with a statutory mandate to buy substantial amounts of reinsurance for a product that elsewhere is called trade credit insurance,” explained Kading.

Rapidly emerging risks such as cyber are a threat to both the developed and developing regions of the globe, and with the potential losses so vast and complex, insurance and reinsurance markets will likely require the capacity and skill set of the ILS space as well.

The availability and willingness of ILS capital to be deployed in areas outside of the overly competitive property catastrophe space enables ABIR members to look at innovative ways to address perils like cyber, and also increase penetration for well-understood perils, like U.S. earthquakes, that suffer from high consumer rates.

So the structures and features of the ILS space, along with its efficient and willing capital could be used to further penetrate underserved markets in the developed world, for both well-understood and relatively poorly understood exposures.

For the developing world Kading told Artemis insurance penetration is generally low, and highlighted the potential for ILS participation.

“With the Insurance Development Forum insurers will be working to replicate successful public private partnerships like the African Risk Capacity. Once the cat model build out gets completed and once a standard replication model for a public/private partnership is ready to go, we hope that such programs can be successfully replicated with less red tape and delay.

“Such projects can be expanded to crop insurance in multiple jurisdictions and to natural disaster protection in many others. India, China and the Philippines all have natural disaster insurance mechanisms in the works,” said Kading.

While Bermuda has been in the past and as highlighted by Kading, will continue to look at innovative ways to utilise both ILS and traditional capital to narrow the global protection gap, different challenges exist for developing and developed peril regions.

However, ultimately the goal is the same and all regions and risks of the globe that are currently underserved will require innovation, and capital structures from the ILS world such as cat bonds, alongside traditional risk transfer solutions from the insurance and reinsurance world.

Finally, Kading told Artemis that regulation must allow for cross border reinsurance and risk transfer, stating that this is essential to diversify risk.

“Policy makers need to recognize that reinsurance regulatory and tax protectionism can constrain insurance markets, increase concentration risk, contribute to insurance insolvencies and lead to higher consumer prices. If the regulatory framework in some jurisdictions changed to roll back mandatory cessions to government controlled or domestic reinsurers, to remove limits on affiliate cessions and to allow global insurers to freely pool and diversify their natural disaster exposures, then the market can flourish,” said Kading.

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