The reinsurance and ILS market places itself at risk of arbitration by their use of ambiguous and unreliable industry loss trigger data sources, which can be as random and varied as “any credible source”, according to Property Claim Services (PCS), a Verisk Analytics business.
Use of sometimes random, unofficial and rudimentary data sources as components of triggers on industry loss based transactions dates back more than a decade in reinsurance markets.
The problems can arise when an unofficial source of loss data is used as a determining factor in deciding whether a transaction has been triggered and a pay-out is due to either party, as without an official provider of this loss, or parametric data, the first step is usually to dispute the claim and wind up in arbitration.
“Ultimately, there’s no alternative to an independent third-party source of industry loss data. As new solutions come to market, it becomes easier to challenge the norm, manage risk more effectively, and usher in a reinsurance revolution,” PCS explains in the latest installment of its reinsurance manifesto.
In the past we’ve heard of everything from economic loss figures published in newspapers, to ‘the generally accepted Lloyd’s market loss, to data reported from reinsurance firms own research teams, as being used as inputs to industry loss triggers.
Not only can these unofficial triggers end up being disputed, but they also place the data source at some risk as well, given they never designed their stories or catastrophe review reports to be used as trigger inputs.
The use of a ‘generally accepted market loss’ with no exact data source pinpointed, is laden with ambiguity and does neither side of the deal any favours, as who’s to say whether it’s even trying to be rigorous or get as close as possible to the reality a real methodology promises.
Granted, there have been disputes over the numbers reported by the most widely accepted providers of industry loss data, PCS included, but at least these numbers come with the comfort of someone trying to provide a service of value to the industry, rather than just random numbers which are impossible to verify by any means.
Due to the fact industry loss transactions, typically industry loss warranty’s (ILW’s), are designed to hedge exposures, the triggers, “should be designed to work when a cedent and market need it most” PCS explains.
Specifying a “credible source” or “accepted market loss” as a source of data for a trigger is basically asking for trouble and does the market and the transaction a disservice.
Even where no trigger exists, for niche lines of specialty business, there is almost always a way to put some rigour and certainty behind the eventual source of trigger data, should it be required.
PCS raises a good point, saying, “The specialty lines ILW market needs an alternative to ambiguous triggers. And in particular, it needs to nd a way to keep propaganda from creeping into the trade through the “any other credible source” loophole.”
Of course the company is pushing its own services here, but it’s a discussion worth having as there have been many cases of random trigger data leading to arbitration over the last decade or more.
In future we’d imagine new sources of trigger data will emerge and new lines of business will suddenly find they have access to an independent, third-party determining factor to use in hedging transactions.
That’s good for market growth and also stability, as hedging peak exposures and protecting capital is key. Minimising uncertainty and ambiguity should be something all transactions strive for and to achieve that indemnity is not always the best or only way to proceed meaning third-party providers will always be a feature of this market.