Reinsurance

DEMYSTIFYING THE WORLD OF REINSURANCE

Size of
Risk

Reinsurer

Insurer

Insured

Policies

REINSURANCE
Reinsurance is a contract of
insurance whereby one insurer
(called the reinsurer or assuming
company) agrees, for a portion of
the premium, to indemnify another
insurer (called the reinsured or
ceding company) for losses paid by
the latter under insurance policies
issued to its policyholders.

THE REINSURANCE MARKET

INSURANCE
COMPANIES

REINSURANCE
COMPANIES

RETROCESSIONAIRES

REINSURANCE
BROKER

Reinsurance
t
Re

ur
s
in
Re

ce
n
a

Reinsuranc
e
Company

Insurance

ct nce
e
r
a
Di sur
In

Insured

Company

Broker, Agent, Phone,

Online, In person.

n
io
s
es
c
ro

Broker, Direct.

Reinsuranc
e
Company

Broker, Direct.

MAJOR INSURANCE EVENTS

2006 INDEXED VALUES

WTC

US$

21bn

Katrina

US$

66bn

Wilma

US$

12bn

Rita

US$

10bn

Australia Storm (last week) expected

to be largest natural catastrophe in
Australian history.
AUS$

2-3bn

Hurricane Andrew

US$

23bn

Northridge

US$

19bn

Reinsurance
and why
do we
measure it
by
premium?

How much of
this is
reinsurance?

Global Premiums in
2007 US$
Growth Growth
billion

in 2007

in 2006

Life

2,393

5.4%

4.1%

Non-life

1,668

0.7%

3.9%

Total

4,061

Source: Swiss Re, Sigma 3/2008.

Reinsuranc
e

ur
s
in
e
R

Insurance
Company

ce
n
a

Company

Broker, Direct.

Reinsurance

Destination & Source of Reinsurance Premium (US$

million)
Gross
Reinsurance
Premium
Assumed

Risk
Located In:

Net Risk

Europe

88,989

(64,653)

24,336

North America

81,946

(90,306)

(8,360)

1,989

(11,219)

(9230)

Africa, Near & Middle East

(2,614)

(2,614)

Latin America

(4,132)

(4,132)

(172,924)

NIL

Asia & Australasia

Total

172,924

Data Source:- 59 Reinsurers: Bermuda 8; Europe 21; Japan 2; USA 28.

Source: IAIS Global Reinsurance Market Report, December 2007

NEED FOR REINSURANCE

Most risks, both natural and man-made, are insured and yet the
likely losses are often beyond the capacity of any single
insurance company or even insurance market.

Reinsurance is therefore the means by which Insurance

Companies obtain the necessary protection.

NEED FOR REINSURANCE

An Insurance Company would therefore buy Reinsurance :

To protect its Capital and its Shareholders

To Stabilise its results from year to year by leveling claims

fluctuations

To increase its Capacity to handle larger and more

complex risks of various classes
To maintain any statutory minimum Solvency
requirements and provide Security
To Spread risks throughout world markets, not just
to lessen financial impact on any single economy

locally,

Limit concentration of risk

Take advantage of risk expertise of reinsurers who have

grater experience of business (territory class)

Reinsurance
Transactions
Reinsurance is a contractual agreement under which the primary
insurer transfers some or all of its loss exposures to a reinsurer.

Primary
Insurer

?
Reinsurer

Retrocessionaire

ELEMENTS OF REINSURANCE
Reinsurance is a form of
Insurance.
There are only two parties to
the reinsurance contract the Reinsurer and the
Reinsured - both of whom are
empowered to insure.

ELEMENTS OF REINSURANCE
(continued)

The subject matter of a reinsurance

contract is the insurance liability
the Reinsured has assumed under
insurance policies issued to its own
policyholders.
A reinsurance contract is an
indemnity contract even in life and
personal accident insurance, caused
by insurance policy obligations.

What Reinsurance Does

It redistributes the risk of
loss which a reinsured incurs
under the policies it issues
according to its own needs.
It redistributes the premiums
received by the reinsured
according to its own needs.

What Reinsurance Does Not

Do!

IT IS NOT A MAGIC POTION

What Reinsurance Does Not Do!

(continued)

Convert an uninsurable risk

into an insurable one.
Make loss either more or less
likely to happen
Make loss either greater or
lesser in magnitude
Convert bad business into
good business

Reinsurance in india
After nationalisation in 1972, General
Insuarance Corporation became the
Indian reinsurer.
The main objective was to maximise
aggregate domestic retention of premium
To secure best terms consistent with the
quality of business ceded
To minimise the drain of foreign exchange
However, Oil, satellites and financial risks
have always been reinsured in the range
of 90% or more

Reinsurance in india
Until GIC was notified as a National
Reinsurer,
it was operating as a holding / parent
company of the 4 public sector
companies, controlling their
reinsurance programmes.
GIC would receive 20% obligatory
cession of each policy written in
India.

Reinsurance in india
Since deregulation, GIC has assumed the
role of the markets only professional reinsurer.
In order to focus on reinsurance, both in
India and through its overseas offices and
trading partners, GIC has divested itself of
any direct business that it wrote prior to
November 2000, with the temporary
exception of crop insurance.
It currently manages Hull Pool on behalf of
the market, which receives a cession from
writing companies and after a pool
protection the business is retro-ceded back
to the member companies.

General insurance corporation

DOMESTIC
As a sole reinsurer in the domestic
reinsurance market, GIC provides
reinsurance to the direct general
insurance companies in the Indian market.
GIC receives statutory cession of 10% on
each and every policy subject to certain
limits. It leads many of domestic
companies treaty programmes and
facultative placements.

General insurance corporation

INTERNATIONAL
A GIC is spreading its wings to emerge as
an effective reinsurance solutions partner
for the Afro-Asian region and has started
leading the reinsurance programmes of
several insurance companies in SAARC
countries, South East Asia, Middle East
and Africa.
To offer its international clientele an easy
accessibility, efficient service and tailor
made reinsurance solutions; GIC has
opened liaison/representative/branch
offices in London and Moscow.

Reinsurance market
A feature of reinsurance market is that
because of the way in which insurers and
reinsurers operates a company may be
trading simultaneously as both a buyer and
a seller of reinsurance.
So the organization of reinsurance markets
range from a group of local insurers
placing all of their reinsurance with a local
monopoly reinsurance corporation to
something as complex as london
reinsurance

London market
Buyers :
British and foreign direct writing
companies
Lloyds underwriting syndicates (group
of Underwriters)
British and foreign reinsurance
companies
Intermediaries:
Reinsurance brokers and all above

Lloyds market
Lloyd's is the world's best known - but probably
least understood - insurance brand. This is
because Lloyd's is not an insurance company but a
society of members, both corporate and individual,
who underwrite in syndicates on whose behalf
professional underwriters accept risk. Supporting
capital is provided by investment institutions,
specialist investors, international insurance
companies and individuals.
Lloyd's brokers bring business to the market. The
risks placed with underwriters originate from
clients and other brokers and intermediaries all
over the world. Together, the syndicates
underwriting at Lloyd's form one of the world's
largest commercial insurers and a leading
reinsurer.

Lloyds market..

Syndicates

Lloyd's members conduct their insurance business in

syndicates, each of which is run by a managing agent.
The syndicates operating within the marketcover many
speciality areas including:
Marine
Aviation
Catastrophe
Professional indemnity
Motor
Syndicates tailor solutions to respond to the specific risks
of the client base.
Syndicates compete for business, thus offering choice,
flexibility and continuing innovation. Syndicates cover
either all or a portion of the risk and are staffed by
underwriters, the insurance professionals on whose
expertise and judgement the market depends.

Reinsurance Market-US
Suppliers include both domestic U.S. reinsurers
and non-U.S. reinsurers; roughly split the U.S.
market for reinsurance.
Some firms solely provide reinsurance; others
provide both primary and reinsurance.
Reinsurance market subject to cycles &
fluctuations in supply or capacity and
underwriting/pricing.
Historically, long-term relationships between
primary insurers and reinsurers provided stability.
As relationships have eroded, market has
become more volatile.

Buyers of reinsurance

Direct writing companies

Captive insurance companies
Reinsurers
State owned insurance corporations
State reinsurance corporation
Underwriting pools
Regional reinsurer pools and
corporations

Sellers of reinsurance

Professional reinsurance companies

Lloyds of London
Direct insurance companies
Underwriting agencies
State insurance and reinsurance
corporation
Insurance and reinsurance pools
Regional reinsurance corporation

Reinsurance brokers
The role of the reinsurance broker
Advise clients:
Proper retenton and adequate capacity
Market knowledge
Prepration of reinsurance contract
Collection of premium
Claim negotitation and collection
Provision of informtion
Code of conduct

BASIC RULE
IN REINSURANCE, ALMOST
ANYTHING IS NEGOTIABLE
THE REINSURER ONLY FOLLOWS THE
CEDING INSURERS FORTUNE

Functions
of
Reinsurance

Stabilization of loss experience

protection)

(net income

i.e., hedging ( the risk of insurer is spread to re-insurer)

Otherwise adverse claim ratio shall lead to increase in
premium rates and so shall affect business in the
market

Large-line capacity
full retention of large exposures not feasible
Can undertake more business of different nature
Financing- large losses can endanger the financial
stability if not reinsured
keep leverage reasonable, offset
serious or series of losses
Timely availability of finance

Catastrophe protection
Underwriting assistance
Withdrawal
portfolio transfers

Stabilization of Loss
Experience

Function: Finance
Reinsurance enables an insurer
to continue to write polices without draining
capital and surplus
reduces written premium
Increases surplus by recouping acquisition
expenses through RI commission
However :
Acquisition cost is paid upfront
Drain on surplus if volume is expanding
rapidly

Function: Capacity
Insurers require greater capacity than their
own resources
Reinsuring risks brings in additional
capacities
An insurer with a policy limit of Rs. 10 crore
Builds capacity of Rs. 20 crore
Cedes 50 % to surplus share reinsurance
treaty
Alternatively, arranges an Excess of
Loss cover of Rs. 10 crore

Function: Stabilization
Stable underwriting results vs. wide
fluctuations
Through XoL enables insurer to
Determine loss limits per risk or in
aggregate
Reinsurer pay above the loss limits

Stabilisation of Catastrophe
Balance sheets protection against
severity of major catastrophe e.g.,
hurricanes, floods, earthquakes etc.
Catastrophe XoL (Excess of Loss)
specifically addresses accumulation
of small losses and single major loss

Relationships &
Insolvencies
Typically, there is no contractual relationship
between primary insured and reinsurer.

recourse only through receiver of insolvent insurer

Exception: cut-through endorsements-A cut-through
provision allows a party not in privity with the reinsurer to have
rights against the reinsurer under the reinsurance agreement

Offsets
Typically, a reinsurer can offset any receivables from
insolvent insurer against reinsurers obligation to
insolvent insurer.

If reinsurer goes insolvent, Primary insurer still

obliged to insured even if reinsurer fails to
meet obligations.

Retention
Management of a Ceding Insurer
sets the retention limit for different
risks or class of risk depending its
capacity to retain/bear the risks
based upon the financial position,
underwriting experience, etc.
The insurers therefore have set
limits and approved method for a
decision for ceding business through
an approved form of reinsurance

A LINE
1. A line of business such as Fire,
Multi-Peril, General Liability, etc.
2. An amount retained by the insurer
on a risk equivalent to its bearing
capacity
3. To fix a retention line is a
subjective decision made with the
help of computer simulation of data

Retention
Retentions are expressed in terms of S.I.
But loss exposures - PML are also taken into
account- past claim experience & probability
law
Decision on Retention limit is standardized
based on risk factors (similar loss exposer per
risk):
Location
Separation
Process carried on
Class of construction and fire protection
In case of large risks- inspection of risk and PML
shall determine the retention limit individually

Measure -Retention

(Traditional approach - As if)

-To estimate MPL based on the past records.
-Applying past losses to the insured values
that exist now. Good to know simple as well as
complex losses.
(Current approach Probabilistic)
-The computer simulation of all the possible
losses that could happen within a long period
of time.
-This type of model also makes it possible to
understand the relationship between loss
potential and occurrence frequency.
Insurers are increasingly using these models.
Some have in-house models. Some depend on
professional companies.

Fixing Retention Level

The Factors in the decision
Risk
Profile

Cost of
Reinsurance

Impact on
PL

Overall
Decision

Capital
Strength

Management is fully involved in the decision

process, because how much they can/should
retain those largest risks is one of the most
significant issues.
Some insurers have their own model for the
simulation of their optimum retention.

Life Insurers retention Limit

This study examines the relationship between ceding life

insurers' retention limits on an insured life basis and certain
operational and financial characteristics of the companies.
Analysis is performed using 97 major U.S. insurers with 1987
assets ranging from $108 million to $32 billion. Retention limits
for these insurers vary from $25,000 to $20,000,000 per insured
life.

Five factors are shown to have the greatest impact on

life insurer retention limits. These factors are
(1) firm size is found to be the most important factor,
(2) form of insurer organization (i.e., mutual or stock),
(3) the firm's emphasis on new business,
(4) average policy size, and
(5) the company's emphasis on term insurance.
Collectively, the principal components regression
model explains nearly 90 percent of the total
variation in retention limits for the sample insurers.

Types of Reinsurance

Types of Reinsurance
Facultative Reinsurance
Primary insurer and reinsurer negotiate a
specific agreement for a particular
risk/exposure.
Best suited for unique, large exposures.
High transaction costs.

Facultative Obligatory Treaty

(Facultative +Treaty)
The insurer cede risks of any agreed class
which Reinsurer must accept if ceded

Types of Reinsurance ..

Treaty Reinsurance (agreement)

Reinsurer is obligated to accept all business
that falls within the terms of the treaty.
Lower transactions costs but greater
potential for adverse selection.
Best suited for numerous, smaller exposures
that are more similar.
1.Quota Share Treaty
2.Surplus Treaty

Quota Share Treaties Primary insurer cedes a fixed, predetermined % of

Proportional

premium & losses on every risk it insurers within

class(es) subject to treaty.

Simple to rate & administer.

Does not stabilize underwriting
results.
Can help reduce reported

$150,000 Policy

expenses.
$100,000 Policy
Can cede profitable business.
$50,000 Policy

25%
25%

25%

75%

75%

75%

Quota share treaty.

Every risk or policy is shared in the
percentage agreed in terms of sum insured
subject to a maximum limit and also the
premium
Profitable to reinsurer as he participate in
every risk or policy
It is costly to ceding insurer and so a short
term arrangement or for new class of
business
Good for new Insurer with less capital in
relation to underwriting of insurance business

Surplus Share TreatiesProportional

Minimum limit of
retention stated in
$ or INR; % of
premiums & losses
ceded varies by
policy.
Avoids cessions on
small policies.
Better at providing
large-line capacity.
More costly to
administer.
Used on property

Example:
$25,000 retention

$150,000 Policy

$100,000 Policy

17%
25%

75%

83%