Opportunities for ILS and collateralized as reinsurance market grows in Asia

The reinsurance market in Asia has significant room for growth given the relatively low level of insurance penetration across the region, according to a report from Fitch Ratings. However risk awareness is increasing, demand for reinsurance from direct insurers in the region is growing and this will naturally lead to opportunities for the capital markets and ILS.

Where will growth come from? A question regularly raised by participants in and commentators on the insurance-linked securities and third-party capital backed collateralized reinsurance markets. Asia is one of the answers. Currently the region features in the catastrophe bond market thanks to a number of transactions transferring Japanese perils to investors and some collateralized reinsurance underwriters and fund managers deploy capital into risks in the region, but it is early days so far.

The issues of a lack of risk modelling, unreliable data and different reporting standards among insurers are often raised, but as the ILS and collateralized reinsurance market grows in size, and as reinsurance penetration increases across the Asian region, there will be a natural progression which will find more third-party capital gradually making its way into reinsurance underwriting in Asia.

In its report Fitch Ratings notes that Asian economies now account for 33% of global GDP and 59.2% of the world’s population. With these figures in mind consider that insurance penetration across Asia runs well below the U.S. and Europe, with a rate of 5.73% in Asia in 2012, compared to 8.03% in the U.S. and 11.27% in the UK.

Then consider where the highest growth potential may come from, likely the Asian countries with the highest populations and the economies with the highest growth potential. That would put China, India and Indonesia at the forefront of insurance and reinsurance growth and in 2012 those countries had just 1.77%-3.96% insurance penetration rates. These markets contain 68.6% of Asia’s population, notes Fitch, and also some of the highest rising household income and industrialisation rates in the world.

So, there’s a lot of room for growth in terms of insurance penetration and after insurance will naturally follow reinsurance once demand for it increases. Currently Asia and Australia combined only account for 10% to 15% of global reinsurance premiums, according to Fitch, despite the fact that as a region it accounts for considerably more than half of the world’s population.

Fitch says that it sees a trend emerging for new reinsurance capacity to be added to the Asian market with new Asia-based reinsurers being established to take advantage of the growing demand. How long until we see the first Asia based, third-party capital backed collateralized underwriter of reinsurance risks? Perhaps not that long, collateralized reinsurers are already underwriting some Asian risks and participating in some of the larger reinsurance and retrocession programmes, albeit on a small level to date.

Fitch said that it believes that rising natural catastrophe occurrence and cost will heighten demand for insurance and reinsurance in the region. As the region further develops its infrastructure, putting more capital at risk, those providing investment in infrastructure and industry in the region are going to demand that they are protected from natural catastrophe risks.

Fitch said that it believes direct insurers will be prompted by this to adopt appropriate risk transfer and capital preservation strategies, and reinsurers will in turn press for higher premium rates that better reflect their claims experience.Combine these factors with the increasingly affluent nature of Asian economies and a stabilisation of economic conditions in the region and Fitch believes that it will propel the growth of direct insurance and reinsurance businesses.

We still don’t expect a sudden surge of catastrophe bonds in Asia any time soon, but we will begin to see more evidence of the influence of the capital markets and third-party capital in the region. Some ILS fund managers are beginning to look at selective risks in Asia to aid their diversification, some collateralized retro underwriters are already active and slowly growing their participation in these markets.

It will be interesting to see whether any more catastrophe bonds are issued this year with Asian (likely Japanese) perils. With the market so receptive to new transactions this year, you would think Japanese insurers, or reinsurers looking for retrocession for Asian risks, may look closely at parametric trigger options to issue cat bonds covering the region.

The Asian market certainly holds a lot of growth potential for the global reinsurance market and as a result the collateralized market and capital market investors will eventually have an opportunity to expand their scope to this region as well. It’s likely to be a slow rate of adoption until we see some leaps forward in risk modelling and data provision for the region. When that happens we could see a much faster rate of change and Asia become a much more meaningful market for the reinsurance and capital markets convergence space.

Read some other articles on this topic:

– As primary insurance grows, reinsurers and capital markets need to be ready

– Asia-Pacific to be main driver of insurance premium growth by 2020

– Risk finance, such as reinsurance & catastrophe bonds, key to Asia’s disaster resilience

You can access the full report via the Fitch website here.