Parametric (re)insurance (Non-catastrophe) and the changing nature of reinsurance buying 5th October 2017 Michael Cane

Agenda for Discussion Changing Nature of Reinsurance Buying The evolving landscape Deal examples Parametric Reinsurance (Non-catastrophe) What is parametric reinsurance? Example of a current deal in progress Summary

The Changing Nature of Reinsurance Buying The evolving landscape In the past…. Individual reinsurance programmes purchased for each business unit The retention level and reinsurance programme evolved over time Performance evaluated per line of business result The present… Insurers and Syndicates buying cross class reinsurance programmes Contracts increasingly have aggregate and franchise features New reinsurance products being created Performance evaluated on group results Why the change…? Solvency 2 has focused insurers on risk appetite and capital efficiency Purchase of ‘specific’ covers can lead to redundant cover Influence of the CRO role Changing nature of the Reinsurance Buyer’s position

The Changing Nature of Reinsurance Buying Reinsurance purchasing – the past (good old days…?) Reinsurance team operates almost autonomously Little or no actuarial evaluation Little or no consideration given to the capital model Buying authority sits with the reinsurance manager Broker relationships a prominent feature dictating reinsurance programme Deals done here… And here!

The Changing Nature of Reinsurance Buying Reinsurance purchasing – the present Reinsurance team connected to the business Reinsurance manager may be an actuary or report to the Chief Actuary Capital actuaries stochastically model and evaluate alternative structures Buying authority is usually a panel including reinsurance, underwriting and actuarial colleagues Brokers selected more on service and modelling / advisory capability

The Changing Nature of Reinsurance Buying Deal Example 1 Rationale: Earnings protection via “Group Volatility Cover” Classes covered: Property, Engineering, Marine Hull, Marine Cargo Placed “close to the money” in terms of their budget for large losses Franchise retention of 10M, maximum contribution differs by class/territory 120M xs 150M in the aggregate

Reinsurance Buying Trends Deal Example 2 Rationale: Cost savings, retain profit within group Classes covered: Property, Liability, Energy, Marine, Aviation, Energy, Financial Lines Two stage transition Stage 1 – replace all first layers with 100m xs 100m aggregate cover Stage 2 – replace all second layers with Xm xs Ym aggregate cover Contracts ‘placed’ internally, and protected with retrocession

Parametric Reinsurance (Non-Catastrophe) What is Parametric Reinsurance “Parametric insurance is a type of insurance that does not indemnify the pure loss, but ex ante agrees to make a payment upon the occurrence of a triggering event. The triggering event is often a catastrophic natural event which may ordinarily precipitate a loss or a series of losses. But parametric insurance principles are also applied to Agricultural crop insurance and other normal risks not of the nature of disaster, if the outcome of the risk is correlated to a parameter or an index of parameters”

Parametric Reinsurance (Non-Catastrophe) Current deal in progress! Triggering event – Loss ratio for a collection of insurers Buyer can select the ‘return period’ that will trigger the deal If loss ratio trigger is breached, cover is provided for all underwriting risk – much like how an aggregated ILW (Industry Loss Warranty) would work Illustrative Indemnity Triggers Loss Ratio Trigger 116% 138% 147% Return Period 1 in 20 1 in 100 1 in 200 Probability of trigger 5.0% 1.0% 0.5% Estimated Rate on Line TBC

Parametric Reinsurance (Non-Catastrophe) Current deal in progress! What is the drawback of parametric insurance? Basis Risk!! Basis Risk exists to the extent that your own results differ from the of the index to which the parametric insurance is based. I.e. You suffer heavy losses but the index does not trigger. Basis Risk can also be positive! You have a good year but the index doesn’t

Summary Times are changing: Regulatory regimes Chief Risk Officer New products and innovation Capital market capacity Reinsurance programmes increasingly have: Multi class cover Aggregate / franchise features Parametric solutions are starting to evolve in the non catastrophe space Credible index required Basis risk a key consideration