Alternative capital helps re/insurance stay relevant to society: McGavick

As an industry, the property & casualty (P&C) insurance and reinsurance sector’s relevance to society has declined in recent years, but by utilising the growing capacity of the capital markets this can change, according to XL Catlin CEO, Mike McGavick.

“The fact that the capital markets are willing to trade with us will give us the capital firepower to make big, dream solutions a reality,” said McGavick, speaking at The Marsh & McLennan Young Professionals’ Global Forum 2015 today.

McGavick states that, as an industry P&C re/insurers must become more relevant to the societies they aim to protect, saying “we simply can’t do business in the old way and expect to remain relevant.”

In order to remain relevant in a market place experiencing consistent pressures, innovation and capital is key, and the opportunities provided here by the vast, various sources of alternative reinsurance capital sitting in the sector could help to provide much desired, beneficial solutions.

The influx of alternative, or third-party capital in the sector is now widely regarded as here to stay, and as insurers and reinsurers battle to secure capital at the desired efficiency, the typically, more efficient alternative capital can ensure the required levels of coverage are still obtained.

“If we could figure out how to tackle the issue of flood risk as an industry we would not have nearly enough capital in the entire sector to provide an effective product,” explained McGavick.

So while it may be evident that the influx of alternative, third-party or insurance-linked securities (ILS) capacity has added to the softening market pressure, most notably by increasing competition and affecting rates, the efficient capital it provides to the industry can, and should be used to develop innovative products that societies want and need, ultimately increasing industry relevance.

McGavick asked; “How do we create products that are more relevant to society using our core knowledge of what constitutes the underwriting of risk and spreading that to take advantage of these trends?”

An important answer to this is the rise and use of alternative capital, and the XL Catlin CEO highlighted this.

Instead of viewing the flow of alternative capital as a threat insurers and reinsurers should embrace it, and with the use of analytics and advanced risk modelling capabilities the new, surplus capacity can be used alongside companies’ existing balance-sheets to bolster coverage and reduce costs, or independently to cover emerging risk trends, such as cyber.

McGavick draws on cyber risk as an example of the industry losing its scale of relevance to society.

“If we take cyber, as an industry we are currently grappling with the issue of cyber liability. Yet the difference that we are making to the ability of society to achieve resilience is tiny relative to the exposures that it faces. We are falling behind,” notes McGavick.

To give some idea of the just how much the P&C industry is failing to show relevance to societies globally, McGavick advised that in 2002 the amount of total economic activity represented by the P&C space was 3.4%. By 2011 this had dropped to 2.8%. “That is by definition a declining relevance,” explained McGavick.

“The need for what we do is so great and the opportunity is so vast,” McGavick said.

An example of this can be seen with hurricane Sandy and its impact on New York, McGavick explains. Although the storm struck a highly insured area of New York, the insured portion of total economic losses was just 50%.

Would the insured loss total have been higher if an abundance of alternative capital had been there to add extra coverage? Perhaps, if the insurance and reinsurance sector had embraced it and put it to work, making the most of the low-cost and efficient traits of the capital markets to help support increased insurance penetration.

So now, while the market is still awash with both excess traditional capital and interest from alternative capital providers has perhaps never been higher, it would be wise to deploy this through innovative solutions aimed at protecting the world’s most vulnerable people and helping to narrow the significant economic-insured loss gap, among other uses.

All of which enables the industry to increase its relevance to society.

McGavick said; “As an industry, we need to make the trend our friend – we need to be where that trend is moving and where that movement is sustainable.”

Predicting future trends in the P&C industry is clearly a difficult task, as events like Sandy remind us all too well. But having the added capital base, technology and expertise that are provided by the ILS, hedge fund, reinsurance-linked investment and wider capital market players, can only serve to better prepare and equip the industry, which in turn should result in better prepared and equipped societies.

Unfortunately it often takes an unprecedented or severe catastrophe loss event occurrence to bring to light just how damaging an event in any one region can be, as was the case with hurricane Sandy.

But as McGavick states; “Analytics helps us discover new risks and gives us new ways of thinking about risk. It is at the heart of keeping up with the pace of change. We need to understand how we can turn a flood of data into real information. This will be the role of the rising talent in our industry.”

Having the “capital firepower”, as McGavick terms it, of alternative capital and the capital markets on their side, will enable new talent to leverage advances in technology to make insurance more relevant to society as a whole. It is a “big dream” but perhaps one worth having.