China’s insurance and reinsurance sector regulator, the Chinese Insurance Regulatory Committee (CIRC), has elicited feedback from its market participants and global players on proposed legislation for catastrophe bonds and so-called insurance liability securitisation structures.
The CIRC circulated its proposals in the last week of 2015, asking market participants to consider them and provide feedback by mid-February 2016.
The suggested rules, which were delivered as part of a package of proposals for how Chinese insurance and reinsurance companies could better manage their capital, look to introduce legislation to allow for the securitsation of insurance liabilities and their transfer to capital markets investors, primarily focused on catastrophe risks.
The proposed legislation describes a range of ways that insurance or reinsurance companies in China could replenish their capital, covering anything from share issuance, to debt, to contingent capital, securitised insurance risks (so catastrophe bonds and the like) or non-traditional (in this case considered non-insurance) reinsurance.
The Chinese proposal calls for a securitised capital markets insurance product, issued by a special purpose vehicle, tradable in nature and with its principal and interest linked to the liability of underlying insurance business.
As with a catastrophe bond, or other securitised insurance or reinsurance product that we see in use today, the Chinese proposal states that when a covered insurance event occurs principal and interest payments could be delayed, or the security could pay out in full to the insured, thus providing an increase in capital for the sponsoring insurer or reinsurer.
The regulator wants there to be certain restrictions on which companies can issue insurance or reinsurance securitisations, ranging from needing to be in operation for three years or more, to having an adequate rating and enough capital in its most recent financial reports.
In this way the CIRC is hoping to ensure that only robust, financial stable re/insurance companies can enter into catastrophe bonds or other securitisation issuances. This is encouraging in an insurance market where new players have tended to look extremely well-capitalised very quickly.
Interestingly the CIRC’s proposal would allow sponsors to issue cat bonds or ILS through an SPV or through itself, and either onshore or using an offshore domicile. This could help to lower the cost of issuance, helping re/insurer sponsors to use whatever is going to be most efficient for them.
Before any cat bond, or other ILS, could be issued the sponsor will have to provide the Chinese regulator with a range of documentation. These should detail the background and purpose of sponsoring a catastrophe securitisation or other ILS, a plan of issuance, an analysis of the effectiveness of the proposed issuance, a deal prospectus, legal opinion, a rating agency report and any agreements with securities institutions such as those underwriting a transaction.
The issuing plan should contain all the transaction details, including covered perils, trigger, subject business, pricing information, collateral and interest payment details. Additional information on the SPV set up, agreements between the SPV and cedant and capitalisation of the SPV will also be required.
It looks like the proposed legislation would require a rating for any securitisation of insurance risk, catastrophe or otherwise. It will be interesting to see whether that remains a requirement, given the absence of ratings from so many cat bonds nowadays.
A number of market participants have provided some level of feedback, although clearly language is a barrier for some of the smaller, ILS focused firms. However global reinsurance players and brokers have been making their feelings known by providing feedback to the CIRC on its proposals.
It’s encouraging to see China continue to progress its desire to enable its insurance and reinsurance companies to access the capital markets. The levels of catastrophe risk in the country are significant and with insurance penetration rising rapidly the exposure being held by its insurers is growing.
That increases the need for reinsurance capital and with its capital market developing fast, it’s possible that Chinese re/insurers may look to embrace securitisation as a way to transfer catastrophe and perhaps other insurance risks in future.
By laying the groundwork with legislation the Chinese insurance regulator is hoping that as the market develops, it does so with robust oversight and a set of rules that ensure insurance securitisation provides a stable source of risk transfer, reinsurance and retrocession.