ILS industry still hunting for right balance on protection vs returns: Schultz, Aon Securities

The insurance-linked securities (ILS) and collateralised reinsurance market is still hunting for the right-balance between serving insurance and reinsurance cedents with the protection they need, while dealing with finite term securities, according to Paul Schultz, the CEO of Aon Securities.

Speaking with us in a recent Artemis Live video interview, Schultz explained that this balance remains one of the challenges facing the market as its product development continues.

The topic arose while discussing the implications of the Covid-19 coronavirus pandemic for the ILS market, the challenge this presents and what it could mean for collateral trapping, given the significant uncertainty and also litigation risk that hangs over potential claims.

Schultz began by explaining that the first step for the market is in analysing the contracts it has underwritten, to check the underlying risks, wordings, all while overlaying assumptions about the potential political and regulatory issues that are becoming increasingly high-profile.

“At the end of the day you know reinsurance and insurance is intended to be kind of an event based protection and largely defined by time,” Schultz said.

“Yes, I think there can be some exposure. But I think some of the more draconian views about what could happen, a lot would have to happen between now and then to be able to support some of those in the marketplace,” he added.

Continuing, “The more traditional way of participating in this market, like cat bonds and things like that, that tend to be a little bit more remote and tend to be just excess-of-loss. I think those it’s going to be hard to imagine that that’s going to be impacted greatly.

“Some of the more ground-up business and whether that’s in proportional, whether that’s in sidecars, or whether that’s some of the retro business. Could there be some implications? I think possibly.

“It’s just awfully hard to speculate on what that regulatory and political fallout might be.”

Schultz went on to say that a lot of this comes down to an ongoing hunt for the right-balance of protection versus investor returns and liquidity in the ILS market, particularly around the length of contracts plus collateral terms and conditions.

“At the end of day, for collateralized products. there’s always a tension between what is the right tail that provides the cedents protection against future developments and investors a return and what’s that right balance.

“I think as an industry we’re still trying to figure out what that efficient point in time is,” Schultz explained.

These issues are key to the market, particularly on the collateralised reinsurance and retrocession side, where the protection is seeking to match traditional protection while still maintaining the capital market structural features that the investor base need.

Schultz said, “There’s always going to be that stress or that striving to achieve a better balance for both parties on this.”

On the pandemic specifically, he continued, “Just look at that as any type of development on any type of cat where the pay-out pattern isn’t as quick as you’d like to be able to pay out, entirely within the contract, and you have to take some view on what future losses could be.

“It just creates uncertainty around the final commutation.”

And on the market’s ongoing search for the right balance, Schultz commented, “We’re trying to figure out what’s the most efficient way of tackling that fundamental mismatch, between what reinsurers and insurers promise to pay which goes on continuously and then the finite term of a security or financial type of contract.”

The full video interview is embedded below. All of our video interviews can be viewed online here.

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