Cyber Original Risk: How Do We Bring It to Market?

Cyber risk is the talk of the town, in insurance, reinsurance and often insurance-linked securities (ILS) circles, as it represents an emerging line of business that could bring significant volumes of new risk to market, according to Tom Johansmeyer, Assistant Vice President, PCS Strategy & Development at ISO.

If there’s one line of business with the potential to transform the reinsurance industry worldwide, it’s cyber.

Right now, US catastrophe risk dominates the market. And while original risks from microinsurance, the disaster gap, and specialty lines could help alleviate some of the pressure brought by the excess capacity we all talk about, nothing brings the vast exposures, frequency of attack, and potential devastation that cyber does.

So, how do we bring cyber into the fold, understand it better, and ultimately close that protection gap?

There’s no one answer to this question, unsurprisingly. Any overall solution—or, more likely, set of solutions—would have to be brought to bear at every link in the global risk and capital supply chain. Primary insurers need to be able to write bigger lines and hold more aggregate risk, which should create a risk-transfer need at some point. Thus, reinsurers would need to be able to scale up, as well. If they’ll assume more risk to support their cedents, then they should wind up with an appetite for more retrocessional capacity.

To get more capacity to push to original insureds, there will be reverberations all the way through the retrocessional market, particularly given the relative youth of the cyber insurance sector.

Ultimately, the need is for more capacity, which means that risk bearers at every link in the chain will need a better understanding of their risks. An active market, of course, produces learning opportunities. Today’s claim is part of tomorrow’s historical loss data set. However, an active market only evolves when insurers and reinsurers write more business—difficult to do without the sorts of data available in more mature markets.

The insurance-linked securities (ILS) market could play a role in helping remedy this problem and accelerate market growth. Appetite for cyber certainly exists in the ILS market. And while there’s some ability to deploy now, the market has been clear that an industry loss index would help it play a more active role in the cyber sector.

While primarily known these days for use in retrocessional transactions, industry loss triggers could become an important part of the mechanism by which more cyber capacity—and thus more risk—comes into the global market. As we’ve seen through the maturation of the property-catastrophe market, the PCS® Catastrophe Loss Index (in the United States, Canada, and Turkey) has facilitated the streamlined deployment of capacity to support effective risk and capital management.

And even if ILWs are more common in the retrocessional space, those transactions have knock-on effects down the rest of the risk and capital supply chain. Although it’s too soon to tell, early indicators are that similar benefits are likely to come from the recently launched PCS Global Marine and Energy index, with cedants and markets already weighing the possibilities of transacting on this basis (a process that justifiably takes time before adoption occurs).

So, how would this shake out in practice? Let’s start with the primary insurer. Although the market has been opening up, there’s still plenty of talk about limiting line size and aggregates as common approaches to risk management. Put simply, don’t put cash on the table that you can’t afford to lose. Of course, this approach can contain risk, but it also constrains upside and slows overall market growth. If you take small lines that you slowly increment, there’s no transformational moment when the market becomes much larger—as it would through the introduction of innovative analytical practices or improved capital management. And in the end, it just takes that much longer for the sector to realise its full potential.

The development of a robust cyber ILW market, of course, provides an additional tool for use in driving capacity into the market. In addition to providing easier access to the global insurance-linked securities market, this form of risk transfer can also provide additional capacity where it’s not available on a traditional basis. Basically, you can get supplemental protection to facilitate more underwriting. Over time, this can grow the overall market to the point where more activity yields more data, risk understanding, and, ultimately, more capital deployment. Translation: further market growth and maturation.

Attracting large amounts of original risk could have incredible implications for the global insurance and reinsurance market. In addition to greater returns for investors and shareholders across the market, an increase in insurance activity creates industry knowledge. We learn more about a loss when limits are high enough to cover it, facilitating analysis and understanding for further commitment to this class of business.

Tom Johansmeyer:

Tom Johansmeyer is assistant vice president, PCS Strategy and Development, at ISO Claims Analytics, a division of Verisk Insurance Solutions. He leads all client- and market-facing activities at PCS, including new market entry, new solution development, and reinsurance/ILS activity. Currently, Tom is spearheading initiatives in global terror, global energy and marine, and regional property-catastrophe loss aggregation. Previously, Tom held insurance industry roles at Guy Carpenter (where he launched the first corporate blog in the reinsurance sector) and Deloitte. He’s a veteran of the U.S. Army, where he proudly pushed paper in a personnel position in the late 1990s.

This article was contributed by a sponsor.