The development of a cyber insurance-linked securities (ILS) market is underway, but given the differences in how investors and portfolio managers can diversify within cyber risk, this will likely mean a “different distribution of capital,” is seen, Gallagher Re executives told Artemis.
Speaking with Artemis after Beazley’s landmark cyber catastrophe bond was announced, Ian Newman, Global Head of Cyber and Theo Norris, Cyber Account Executive – Insurance-Linked Securities, both of Gallagher Re, explained how they see a cyber ILS market developing and how investors are likely to deploy capital to it.
Discussing how ILS funds and investors might diversify within cyber risk, Ian Newman said, “We believe ILS funds will pick the cedants they perceive as most impressive and scale their capital support, because the levels of geographical diversification are not as high as you’d get from writing property cat bonds.
“This shouldn’t reduce the capital deployed, but just means a different distribution of capital.”
Newman went on to explain the type of work Gallagher Re is undertaking, alongside ILS investors, to help them get comfortable with the prospects of cyber risk becoming a growing component of ILS.
“What we are doing a huge amount of work on, is exactly that; diversification. We are looking at different portfolios, trying to really understand the diversification that exists at an individual risk level,” Newman explained.
Continuing, “What are those disaggregating factors? The single points of failure and tech stacks that prove that different industries, using different technologies, maybe in different geographies, don’t necessarily correlate with other industries, geographies, territories. We’re doing a lot of work and have hired some people specifically to just look at that analysis.”
The idea is to work through the different portfolio constructions that could emerge within a developing cyber ILS market, to help investors understand the diversification potential within it.
“Once we’ve done it effectively on the individual risk basis, and proved disaggregation effectively there, we’ll then take it up to the portfolio basis and then can look to apply to different reinsurance portfolios. This is all an iteration and a process; although a lot of work being done already it’s not going to be ready tomorrow,” Newman said.
Theo Norris pointed out that ILS investors have already worked hard to eliminate cyber coverage from other areas of their portfolios, as too has the reinsurance market in many cases.
Because of this, cyber risk can, in many cases, be considered an entirely new peril to ILS portfolios and while it may not have the same diversification properties as natural catastrophe risk, there will be options for those managing cyber ILS within portfolios, or even as standalone ILS funds containing cyber risk, Norris believes.
Norris explained that, “From the ILS market perspective, some of the investors I’ve been speaking to have been working hard to strip out cyber from other products they write; property cat bonds for example. A number of investors have been refining property cat bond coverage to hurricane and earthquake only; they’re less comfortable with secondary weather perils creeping in, let alone cyber. It doesn’t mean there isn’t appetite for cyber, if it is isolated and well-structured with the right cedant, they just want it standalone.”
He added that, “The big investors have been coming to us, we’ve got a number of major investors on this one, saying we want to do cyber in a controlled way; it is diversifying versus our portfolio because we’ve worked hard to strip out everything else.”
Which also means, this controlled expansion into cyber risk by ILS managers, could result in dedicated cyber ILS funds.
“That’s where a prospective cyber ILS fund would come in; to dedicate to pure cyber risk and know what they’re taking,” Norris said.
Adding that, “They’re not going to back, say, 10 horses at once because it may not be diversifying enough. But they might do a few in a big way and scale that support once they know and trust the portfolio; they know the cyber breach response, live event response, that kind of thing.”
It’s encouraging to learn of the work being undertaken to help ILS fund managers and investors better understand cyber risk and get comfortable with it, from a portfolio construction and diversification view-point.
It bodes well for the ongoing growth of the cyber ILS market and ultimately means even more options for investors looking to put their capital behind insurable risk.