Captive Reinsurance Characteristics- How to Tame the Unique Animal

Transcription

1 Captive Reinsurance Characteristics- How to Tame the Unique Animal Bill Hodson- Vice President, Axiom Re, Inc. Garry Coulter- Executive Vice President, USA Risk Intermediaries Mike Petrocik- Vice President and Chief Actuarial Officer, Specialty Markets, Munich Reinsurance America

2 Captive Reinsurance Structuring or... "We can get reinsurance for this, right? or Fear & Loathing in Indian Wells.

3 Captive Reinsurance Structuring or... About horses and carts.. So you have decided to form a Captive (or have one already), there are really two basic issues that need to be determined: First, how much risk can we (or should we) assume and Second, what risk can we (or should we), transfer

4 How much risk to assume Typically up to 5% of current net worth in the aggregate for all lines of coverage is considered a normal or reasonable risk appetite as determined by financial advisors and economists. Most companies assume much less than this except those industries that have large uninsurable exposures.

5 How is the risk assumed The following are types of Captives assuming risk: Deductible Reimbursement Captive Fronted/Reinsurance Captive RRG Direct Assumed Risk Captive Protected Cell Captive A/B Fund Captive Group Captive with Front

6 How is the risk is Transferred The following are ways Captives can Transfer risk: 100% Assumption of Risk (to its owner) XS Per Occurrence XS Per Occurrence and in the Aggregate XS Per Occurrence/Aggregate with Loss Corridor Quota Share Combination of the above (except 100% Assumed)

7 Captives: Motivations Financial and non-financial reasons Cost Coverage Capacity Control Cash Flow Reinsurance Insurance Costs Allocation Investment Income Rewards for Good Claims Record Stabilization Availability Broaden Terms Tailored Uninsured Risks DIC Co-Insurance Participation Increase Cover New Risks Build Limits Regulation Claims Reserves Access to Reinsurance Profit-Center Markets Potential Focus Risk Management Efforts Enhanced Loss Control & Prevention

8 Accessing Reinsurance Access to the reinsurance market is one of the keys to the success of captives. Captives can take the predictable losses but are not able to handle shock losses. Risk transfer is still required for catastrophes and excess aggregate losses.

9 Providing Capacity 1. Problem exists when insureds cannot get all limits required. 2. Captive structured to provide desired capacity at necessary levels. 3. Hard market is making this a problem once again.

10 Financial Analysis The issues in the Captive s financial impact on its sponsor that need to be evaluated are: Tax Impact (Balance Sheet & Income Statement) Cost Impact (Balance Sheet & Income Statement) Consolidation Effect Cash Flow Impact and Requirement Shareholder Benefit Direct and Indirect Liability Impact

11 Key Points A qualified self insurer or a large deductible buyer is taking a hit for the reserves on their balance sheet without being able to deduct the current cost for those reserves from the companies income statement The net assets of the captive consolidate "upward" to the parent companies balance sheet. Reinsurance is crucial because it drives the captive and sponsors numbers. The bottom line is that unless you get the reinsurance right the captive approach will not work.

12 Case Study This shows a $50,000,000 net benefit over five years compared to a guaranteed cost program for a profitable company that is making a profit and wants to enhance their cash position.

13 Reinsurance Presentation & Marketing Mike Petrocik Vice President Munich Reinsurance America

14 Presenting Your Captive to Reinsurers Introductory Meetings Important if looking for new reinsurers Provide high level overview of your operations and learn about their appetite and style Start early; avoid busy renewal dates Conferences provide convenient setting

15 Presenting Your Captive to Reinsurers Pre Binding Audits Not all reinsurers require them In depth, multi day review of your operations Participants: underwriting, possibly actuarial and accounting Coordinate claims audit of TPA

16 Presenting Your Captive to Reinsurers Submission Most important way of communicating with reinsurer Many people at reinsurer who will not meet you, will review your submission Will be the permanent record of your captive through the underwriting and pricing process

17 Presenting Your Captive to Reinsurers Dialogue Through the Year Contract will indicate required communication Beyond what is required, keeping reinsurers up to date on happenings within your captive can ease renewal process

18 The Philosophy of Submissions Comprehensive make sure the submission tells your whole story Concise despite above, don t overload with non-essential information Clarity be clear as to your captive s mission and approach Consistent be certain that data is consistent within this year s submission and in comparison to prior years. Explain inconsistencies.

19 Components of a Reinsurance Submission History and overview of captive especially important for new reinsurers Details of exposures comprehensive list of different operations within the captive Coverage forms provide copies of forms in use Reinsurance experience past results of treaty Quantitative data Data, data, data!

20 Submission Data High quality data results in fairer reinsurance costs If you believe your captive to be better than average, it is in your best interest to prove it! When facing uncertainty in the data, a reinsurance actuary must err on the side of caution Shortfalls in submission data often result in use of industry data instead

21 Data Issue: Changing Membership of Group Captives An issue that frequently presents a data challenge for group captives and their reinsurers is how to adjust for changing membership Members that have left Ideal is to separate data but provide it Good to include reasons for their departure New members If possible, provide data on recent experience At a minimum be clear about how you are addressing new and departing members within the submission data, and be consistent throughout the submission

22 Types of Data for Submission Exposure data Provide commonly used types for each line (ex. Vehicle counts for auto, payroll for WC) Include history of exposures in each annual submission minimum of five years Profile data Some pricing techniques depend on exposure profiles (ex. Payroll by class) Property values by location and type are required for natural catastrophe coverage

23 Types of Data for Submission Loss Information the key component of any experience rating analysis is accurate, detailed loss information. Losses are needed for each year being analyzed, in line of business detail. Reinsurers look to get information on all past losses. At a minimum, all losses of at least half the attachment point are necessary. Losses should be evaluated as recently as possible. If possible, annual evaluations of each loss should be submitted. This allows the reinsurer to create loss development factors unique to the risk.

24 State of the Reinsurance Market Is the Reinsurance Market a More Unusual Animal Than a Tasmanian Wolf?

25 Is it Harder to Tame? (insert shameless plug for professional reinsurance service provider below) Not if you have the right professionals working for you! Differences: Clout in the marketplace Comprehensive servicing capabilities

26 State of the Market Update 1. Impact of Current Financial Markets on the Reinsurance Industry. 2. Major Players Writing Reinsurance for Captives. 3. State of the Reinsurance Market.

27 Financial Market Impact While Many Insurers Have Been Stung, Most Reinsurers Have Not. Reinsurance Capacity Only Slightly Reduced. Modest Pricing Increases in Specific Lines. Post-Event Recapitalization Affected. Collateralization Issues/Credit Risk Affected

28 Insurers vs. Reinsurers While Many Insurers Have Been Stung, Most Reinsurers Have Not Many Market-Leading Insurers have/had Divisions Whose Income was Derived Solely from Financial/Mortgage Markets. According to a Recent AON Study, U.S. Insurance Capitalization Declined by an Average of 30% in Reinsurer Capital Declined 18% in 2008.

29 Roughly 90% of Reinsurer Capital Decreases were from Financial/Credit Markets, the Balance from Natural Catastrophes such as Hurricanes Ike and Gustav. However.Reinsurer Capital Base More Conservative Between 2003 and 2007, Reinsurers Only had between 5% to 6% of Total Assets in Mortgage Loans, Real Estate and Non-Negotiable Loans.

30 Reinsurer Assets By Major Class Source: IAIS

31 Reinsurer Total Asset Leverage Total Assets to Shareholder Equity (2007) Commercial & Investment Banks 16.5 Times Reinsurers 4.6 Times Source: AON

32 Reinsurance Capacity Slightly Reduced Large Realized & Unrealized Capital Losses. Hedge Fund Capital Retrenchment Underwriting Losses in Specific Lines. Property Catastrophe Mortgage & Bond Related Covers E&O/D&O Rising Combined Ratios. Mitigating Factor Continued Inflow of Premium $ and Low Losses in Most Lines.

33 Reinsurance Industry Combined Ratios % % % % Source: IAIS

34 Post-Event Recapitalization Rating Agencies and Regulators are Greatly Concerned that the FHCF (and to a Lesser Extent the CEA) Will Not be Able to Raise Funds After a Major Event, Due to Severely Decreased Bonding Capacity.

35 Collateralization/Credit Risk The Proverbial Worm has Turned... Funding/Credit for Reinsurance Clauses are Changing: Foreign & Alien Reinsurers Need to Post Collateral (LOC or Trust) so Cedants can Take Credit for Reinsurance on Annual Statement. Many Funding Clauses also Contained Provision for Termination or Penalties in the Event of Reinsurer s Rating Downgrade.

36 Collateralization/Credit Risk Reinsurers worried about Cedant Solvency (i.e. Continued Payment of Premiums) are Now Demanding Credit Risk Protection in Reinsurance Agreements. Examples Include Termination/Penalty for Cedant s Rating Downgrade, Interest/Penalties for Late Premium Payments, and Increased Use of Universal Offset Clause.

37 Markets for Captive Reinsurance U.S. Reinsurers of Captives: Good News - More Traditional U.S. Reinsurers are Either Actively or Considering Reinsuring Captives than Ever Before. (The Presenter Apologizes in Advance to Any Reinsurer Inadvertently Left Off This List, Especially if a Representative of Said Company is in This Room) ACE Tempest Re Arch Re Discover Re Maiden Re (GMAC)

38 Markets for Captive Reinsurance U.S. Continued Munich Re America National Indemnity Odyssey Re Partner Re Swiss Re America Transatlantic Re Toa Re

39 Markets for Captive Reinsurance Bermuda: American Safety Re Arch Re Aspen Insurance Castle Point Catlin Hiscox JRG Re

40 Markets for Captive Reinsurance Bermuda Continued Maiden Re Max Re Montpelier Re Renaissance Re XL Re

41 Markets for Captive Reinsurance London: Aspen Re Lloyd s of London Leads: Amlin Beazley Catlin Faraday

42 Markets for Captive Reinsurance London Continued Lloyd s of London Followers: Barbican Heritage Liberty Meacock Other Syndicates/Markets Selectively Writing Captives: Advent, Ark, BRIT, Canopius, Chaucer and Hannover Re (Dublin)

43 State of the Reinsurance Market Werner Heisenberg s Uncertainty Principle: Attempting to measure an elementary particle s position to the highest degree of accuracy leads to an increasing uncertainty in being able to measure the particle s momentum to an equally high degree of accuracy. E t h / 4

44 State of the Reinsurance Market i.e. The Future s a Bit Murky, but We Know What Happened with 1/1/09 Programs. The Tail Started Wagging the Dog in Specific Lines.

45 State of the Reinsurance Market Recap: 1. Inadequate Insurance/Reinsurance Rates 2. AIG Repercussions (Selling Off Insurance/Reinsurance Entities Will Benefit Industry) 3. Large Property Cat. Losses and Increased Frequency of Smaller Events (Cat. and Per Risk) 4. Cost of Capital Continuing to Increase

46 State of the Reinsurance Market Observations at January 1, 2009 (ART): Predictions were for Industry-Wide Hardening, but Only ART Clients with Adverse Experience Received Rate Increases. Minimum Premium Dollar (vs. Percentage) Provisions Much More Prevalent for Start-Ups. Reinsurers Favor ART Accounts.

47 State of the Reinsurance Market Observations at 1/1/09 (General, U.S.): SE/Gulf Coast Exposed Property Cat. Up 10% to 15%+. Rest of U.S. Property 0% to -5% (Occurrence Limits Tightened). Casualty Rates Flat to -5%, with Capacity Restriction Starting. E&O/D&O Capacity and Terms Tightened, Rates up 10%+. Workers Compensation & Professional Liability Rates Down 10% (+) on Accounts with Good Experience. Marine & Aviation Tightened (Rates and Capacity).

48 State of the Reinsurance Market Observations at 1/1/09 (General, London): Pricing & Capacity Very Similar to U.S. London Still Favors Programs where Close Relationships can be Built with Clients (i.e. ART). Credit is Given for Good Experience and Disciplined Risk Management. Still Hungry for Unusual/Out-of-the-Box Risks.

49 State of the Reinsurance Market Predictions: ART Sector will Remain Attractive to Reinsurers. Property/Cat. Pricing & Capacity will Continue to Harden Significantly Due to 08 Losses, Absence of New Capital and FHCF Uncertainty. Casualty Lines Pricing and Capacity Will Harden Moderately Due to Increased Losses and Poor Investment Environment. E&O/D&O, Surety and Marine & Aviation Will Continue to Harden Significantly.

50 State of the Reinsurance Market Things to Watch in 2009: Prices Continuing to Trend Up Huge Pressure on Insurer/Reinsurer ROE Increased Scrutiny of Insurer/Reinsurer Ratings Increased Demand for Reinsurance as Insurers Lower Retentions Investors More Attracted to Insurance/Reinsurance Sector s Returns Growing Interest From Fed. Gov t. in Regulating Industry Initiatives for Federal Catastrophe Market

51 Questions?