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Buying & building ILS units both viable routes to market: SIFMA speakers


Insurance and reinsurance companies establishing their own insurance-linked securities (ILS) divisions has become a more common feature of the market as the asset class has evolved, leading executives at SIFMA to discuss the benefits of buy versus build, when considering entry into the ILS market.

As the investor base of the ILS market has continued to expand, and its share of the overall reinsurance market pie continues to grow, insurers and reinsurers have increasingly looked to work with the capital markets in order to increase efficiency and put to work some of the ample capacity.

As a result, numerous firms have established dedicated ILS vehicles, or units in order to effectively manage exposures, reduce costs, and ultimately as a means of increasing their capabilities within the ILS space.

With this in mind, speakers at the SIFMA IRLS 2016 conference held in New York during February, were questioned on the benefits a specialist ILS fund or manager brings to an investment in the asset class, and debated whether it’s better to buy or build entry into ILS.

Jonathan Malawer, Managing Director, Senior Investment Analyst, K2 Advisors, LLC, noted the rise of more traditional reinsurers and primary insurers increasing their capabilities with ILS, highlighting that in more recent times asset managers have sought to do the same, “and I think that is all natural as the market evolves,” added Malawer.

However, Malawer stressed that from K2 Advisors perspective, the underwriting expertise, sourcing capabilities, risk management expertise, and the location of specialised, dedicated ILS funds is a great benefit to investors.

“Being able to underwrite and manage a portfolio during different insurance cycles, having had experience going back to 2005 and to prior event cycles is very beneficial to our investors,” said Malawer.

Adding that being able to source and originate risk is something that also adds value to the market, along with investing in risk management, the right people and the process of managing the risks, is something ILS funds and managers can do very well.

On location, Malawer made an important point, that having an office in Bermuda or a similar jurisdiction that serves as a domicile for ILS business enables investors, and firms such as K2 Advisors to access risks that they would otherwise be unable to do so, owing to legal and regulatory hurdles, making this “a very key advantage towards being an ILS specialist in terms of allocating capital,” said Malawer.

The rise of reinsurer-backed ILS units is a sign of the markets evolution, and underlines that traditional players perhaps view the capital as a threat and an opportunity, increasing their capabilities within the sector via the establishment of a dedicated ILS division.

One benefit of a reinsurer operated ILS unit is the possibility of accessing a wider range of business lines, particularly regarding the larger reinsurance companies that have a broader reach in terms of risks and geographies, when compared to smaller firms and also dedicated, specialist ILS funds.

Furthermore, by working alongside a reinsurer, either via a partnership or by the ILS unit being an internal division of the company, it’s likely that the ILS side of the business will benefit from seeing more opportunities at renewals, and they can also take advantage of fronting arrangements and leverage opportunities.

Much has been said of the ILS sector’s increasing sophistication, both in terms of its investor base and its features and structures, but according to fellow SIFMA panellist, Todor Todorov, Senior Investment Consultant, Hedge Fund Research, Willis Towers Watson, “it’s not about sophistication, it’s about time and resource.”

For Todorov, the buy versus build debate relates to governance, and “essentially it boils down to time.

“A lot of people talk about sophistication but I think generally, in my experience you’re working with institutional clients, they are all very smart, well-educated people. It’s not about sophistication it’s about time and resource,” explained Todorov.

The majority of investors in the ILS space are large pension funds, hedge funds, or similar, which typically have a very complex portfolio that deals with many different asset classes.

As a result, Todorov explains that it’s not always cost-effective for these types of investors to establish a dedicated, in-house team for each individual asset class, and owing to their size and scale the costs of working with a specialist ILS manager might not be too high in the grand scheme of things.

It’s a good point, as many of the skills and expertise that ILS funds or managers offer, as highlighted by Malawer, would need to be replicated via the establishment of in-house teams, which includes hiring people and purchasing software for risk management and so on, perhaps making investment in the space that much more costly.

That being said, and as highlighted previously, there are benefits and opportunities with the reinsurer-backed ILS funds, suggesting that the buy versus build debate in part depends on a firm’s capabilities and position in the market at any given time, and also how active they want to be in the space.

Furthermore, panellist Steve Sutinen, Senior Portfolio Manager, Fixed Interest, Challenger Investment Partners, underlined the wide product mix available via the wealth of ILS funds operating in the world today, and that without this it could be a lot more difficult to access desired risks in certain locations, again coming back to the benefits noted by Malawer.

The ILS sector continues to mature and evolve, and it’s likely other insurers and reinsurers will look to create their own ILS divisions in the coming months, after all, for some it might be more cost-effective to enter the space this way and it does have its perks.

But as highlighted by speakers at SIFMA, the expertise, knowledge, and experience of the dedicated ILS funds and managers is growing all the time, underlining the continued value they bring to a sector poised for further expansion.

Register today for ILS NYC 2023, our next insurance-linked securities (ILS) market conference. Held in New York City, February 10th, 2023.

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