Chapter 28 - reinsurance Flashcards
Reasons for reinsurance
- limitation of exposure to risk
- avoidance of large single losses
- smoothing of results
- availability of expertise
- increasing capacity to accept risk
- financial assistance
Factors affecting an insurer’s demand for reinsurance:
- the size of the insurer
- its experience in the marketplace
- its available free assets
- the size of its portfolio
- the degree to which it is felt that this business outcome is predictable within bounds
Reinsurance commission
- typically paid under proportional reinsurance business written on an original term basis
- sometimes deduction from premium (rebate)
Facultative advantages
flexibility for both parties
- cedant is free to place the reinsurance with any reinsurer (can look in the market for the best price)
- the reinsurer may accept or reject the reinsurance as offered
Facultative disadvantages
- it is a time-consuming and costly exercise to place such risks
- there is no certainty that the required cover will be available when needed
- even if cover is available, the price and terms may be unacceptable
- the primary insurer may be unable to accept a large risk until it has been able to find the required reinsurance cover
Treaty advantages
- allows them to place reinsurance automatically (less admin)
- Terms and conditions are carefully laid down
- no delay in acceptance
- solvency and growth requirements can be controlled more readily by treaty arrangements
- certain: cedant knows that reinsurance is available and on what terms
Proportional reinsurance for long-term:
Quota share or surplus
either of which can be on:
- an original terms basis (coinsurance)
- a risk premium basis (related either to full benefit or sum at risk)
Proportional reinsurance for short-term:
- quota share (on original terms basis)
Purpose of proportional reinsurance
- accept larger risks than would otherwise be possible
- particularly popular with new or inexperienced cedants
- allows reinsurance commissions to be payable
Original terms (coinsurance)
- involves a sharing of all aspects of the original contract (premiums and claims split in same proportion)
Reinsurance commission
- will usually cover (in respect of the reinsured portion of the policy) the commission that has been paid by the cedant and part or all of the cedant’s other expenses
Deposits back
In certain countries, the supervisory authority may require the reinsurer to deposit back its share of the total reserve under a reinsured contract with the cedant.
Risk premium reinsurance
- the reinsurer sets the premium rate, which is independent of the premium rate charged by the insurer
- changes in cedant’s premium rates will not necessarily require a change in reinsurance rates. Gives cedant greater freedom to respond to competitor changes in premium rates
Types of risk premium reinsurance
- level over the term of the insurance contracts
- increasing over the term of the insurance contracts
Level risk premium
- reinsurer spreads risk premiums so that they are level over the term of the contract
- has advantage that the cedant can simply load reinusrance charges to obtain premium payable by the policyholder.
Increasing yearly risk premiums
each year’s risk premium represents the expected cost of the claims payable by the reinsurer during the year
Sum-at-risk reinsurance (long-term)
- Proportions are applied to the insurer’s sum at risk ie the excess of the stated policy benefit over the reserve the cedant holds
- only of use where benefit is a lump sum
- unit-linked CI
Because the cedant and reinsurer will have proportionately the same experience with QS, the reinsurer will be concerned at the outset to establish:
- the nature of the business being offered
- the cedant’s attitude to underwriting and claims settlement
- any previous experience of this business
Advantages of QS
- helps spread the risks, reducing parameter risk in particular
- might be some reciprocal business from the reinsurer
- administratively simple
- used for financing new business strain
- help reduce solvency requirements for short-term business
Solvency ratio for short-term
- for short-term solvency ratio is often defined as free assets / net written premiums
- not applicable to SA
Limitations of QS
- it cedes the same portion irrespective of the size
- it passes a share of the profit to the reinsurer
To which class of business can surplus reinsurance apply?
- policies where there is a fixed sum insured, chosen at outset by the policyholder
Advantages of surplus reinsurance
- write larger risks
- limit exposure from outset
- reduces concentration of risk per life so reduces claims volatility
Disadvantages of surplus
- less control of its protection against parameter risk than QS as overall share of the risk will depend on size of the policies taken on
- less suitable for financing arrangements
Risk XL
- type of XL that relates to individual losses. It affects only one insured risk at a time.
- protection against large individual claims
Aggregate XL
- upper limit and excess point apply to the aggregation of multiple claims
- same as stop loss because the only peril is morbidity
- covers total losses for the whole account above an agreed limit
- profits in long-term insurance are rarely sufficiently volatile to warrant paying for this protection
Catastrophe XL
cover defined in terms of a common cause or peril over a period of time
Advantages of XL
- allows insurer to accept risks that could lead to large claims
- reduce risk of insolvency from a catastrophe, large claim or aggregation of claims
- stabilise profits from year to year
- helps make more efficient use of capital by reducing the variance of claims payments
Disadvantages of XL
- premium to reinsurer will be greater than expected recoveries
- from time to time, XL premiums may be considerably greater than the pure risk premium
Fin re
- only involves small element of risk transfer
- aims to manage capital position
- not effective under accounting or supervisory regimes where credit can be taken for future profits
Risk premium reinsurance
- type of fin re
- reinsurer relieves the cedant of part of its new business financing requirement
- loan presented as reinsurance commission related to the volume of business reinsured. The repayments are added to the reinsurance premiums.
Contingent loan (surplus relief reinsurance)
- the reinsurer again provides a loan to the cedant, but, as the repayment of the loan is contingent upon the stream of future profits being generated by the business, the cedant may not need to reserve for the repayment within its supervisory returns.
Determination of the retention level
- estimate distribution of claim costs under various retentions and then pick one that gives a suitably low probability of adverse net experience
- model can be used to find a mix of reinsurance and of holding a risk experience fluctuation reserve that minimuses the cost of claim fluctuation protection
Company will be moved to reinsure more when:
- they are less certain about future claims experience
- the lower the acceptable probability of future insolvency
- the greater the variance of the benefit level distribution
