Chilean riot losses show need for hedging solutions, including ILS: PCS

Insurance and reinsurance market losses from the Chilean riots that took place in 2019 are continuing to rise and the magnitude of the industry loss, as well as the fact their size and location has been relatively unexpected in some quarters, means reinsurers are likely to be looking for hedging solutions, Property Claim Services (PCS) believes.

In a white-paper PCS highlights that insured losses to the retail sector in Chile alone could reach between $900 million to as much as $1 billion, which could make up close to one-third of the eventual total insurance and reinsurance market loss from the event.

Nobody really expected a $2 billion plus industry loss from rioting in Chile until it happened and PCS highlights that this kind of man-made loss behaves very differently to the more typical catastrophe industry losses that insurance and reinsurance firms see.

“Man-made insured losses in a metropolitan area—particularly in a developing market—tend to be more concentrated by class of business, sector, and even possibly insurer, leading to a unique view of how a reinsurer’s capital could be affected,” the company explained.

The white-paper that PCS has published for subscribers to its new PCS LatAm service (which launched recently) goes into some detail on the retail landscape of Chile, the major companies affected by the riots, and the insured loss implications from the event

The report also talks about the important need for reinsurance firms to be able to hedge against this type of exposure, a hedging product that is often not as available as reinsurers may hope due to capacity trends in the market and the traditional market being over-exposed in some cases.

So enter the insurance-linked securities (ILS) market, which PCS believes can be a capacity provider that helps reinsurers hedge its exposures in Latin America, including from man-made loss events and large risk losses.

The report discusses how reinsurers can manage strike, riot, and civil commotion (SRCC) risks using a combination of parametric instruments, industry loss warranties (ILW’s) and other risk transfer tools.

Tom Johansmeyer, head of PCS, a Verisk business, explained, “The global reinsurance industry hasn’t seen many man-made SRCC and terror events over the past 30 years that have been significant enough to grab headlines, let alone affect reinsurer risk-transfer thinking. Tianjin, September 11, and Bishopsgate come to mind. Tianjin was a bit different from the other two, neither of which was SRCC.

“It’s a difficult risk to understand, given the paucity of historical information available. That’s why it’s important for reinsurers to invest some extra time and effort into understanding the riots in Chile last year, even if they don’t have much exposure to it. There are lessons here that will matter to them later.”

Alex Mican, director of specialty lines product development at PCS, also noted, “The riots may have affected business in Chile, but in a way, it was a global event. While only one of the retailers with a large insured loss was a global
player, the others have significant regional presence, which means that viewing risk on a country basis could result in some blind spots.

“As the loss continues to develop, we’ll remain in close contact with our clients to help them understand how the retail sector is being affected as well as how the overall catastrophe loss evolves.”

We discussed the need for hedging with Johansmeyer who said that this can be a bit of a gap in coverage for some major reinsurance firms, an area the ILS fund market could be assisting with.

“Reinsurers are already talking about how they can hedge losses such as the Chilean riots and with unexpectedly large exposures turning up in places like the retail sector, it’s clear that hedging solutions such as ILW’s or other ILS backed transactions could play a role,” Johansmeyer explained.

Adding that, “They will need ILS funds to write ILW cover to get the protection they need, it just isn’t available all the time in the tradtional reinsurance and retro market.

“Reinsurers may need protection fast and ILS funds are best positioned to take the Chilean risk out of the global reinsurance system and deliver the protection needed.

“ILS funds are at their best when they provide protection for the types of risks that reinsurers can’t provide to each other any more because of risk concentration. That’s the whole point of ILS.”