Chapter 5: Reinsurance products - background Flashcards
Define Reinsurance
Reinsurance is a means by which an insurance company can protect itself against the risk of losses by ceding the risk to other companies (reinsurers).
Define retrocession
Retrocession is a means by which a reinsurance company can protect itself against the risk of losses by retroceding the risk to other reinsurance companies (retrocessionaires).
Define “cede”
“pass on” or “give away”
Define facultative
“individual”, as in an individually negotiated arrangement
Define treaty
Treaty reinsurance is the reinsurance of a group of similar risks (several policies) under one reinsurance agreement.
in this arrangement, insurer is obliged to cede the risk and the reinsurer is obliged to accept, subject to conditions set out in a treaty
Define “direct writer”
The insurer with a direct contract with the insured (as opposed to a reinsurer, who has a contract with the direct writer),
also called the primary insurer or cedant.
Retrocedant
The ceding reinsurer in a retrocession.
The role of a reinsurance broker
The reinsurance intermediary sits between an insurer and its reinsurer.
Brokers use their specialist knowledge and their contracts to get the best reinsurance price.
In addition to placing reinsurance, brokers have specialist areas of expertise such as:
- actuarial and catastrophe modelling
- claims handling
- technical reinsurance accounting
- market security
- rating advisory
- capital markets and advisory
8 Reasons for purchasing reinsurance
SHORT:
- Limitation of exposure to risk or spreading of risk
- avoidance of large single losses
- smoothing of results
- increasing profitability
- improving solvency margin
- increasing capacity to accept risk
- financial assistance
- availability of expertise.
LONG (12M - CH 5 PRACTICE Q5.1)
1. Reinsurance may be used by an insurer:
to limit its exposure to risk (or spread risk) in respect of:
#single risks
#aggregations of single risks multi-class losses
#accumulations
2. to obtain additional business through reciprocity
3. to avoid single large losses in respect of:
#single large claims #catastrophes
4. to smooth its results
5. to increase profitability by:
#increasing the stability of results (and so the ability to plan)
#taking advantage of cheap reinsurance
6. to enable it to declare profits from outstanding liabilities more quickly
7. to improve the solvency margin and hence reduce the risk of insolvency
8. to increase the capacity to accept risk, either:
#singly, ie to enable it to write larger risks,
#or cumulatively, ie to enable it to write more business
9. to obtain financial assistance to help with:
#new business strain
#bolstering free assets
#a merger / acquisition
#any other short-term cashflow needs
10. to get technical assistance on:
#new risks
#unusual risks
#risks in new territories
11. as a supervisory condition.
5 Factors affecting an insurer’s appetite to limit risk
- the size of the insurer
(Larger insurance companies will generally have larger free reserves and a relatively more diversified portfolio of business and hence will be less exposed to random fluctuation of claims experience. As a result they may require less reinsurance.) - the insurer’s experience in the marketplace
(If a company has a lot of experience in the marketplace then it will hopefully have sufficient credible data to be able to make an objective estimate of the expected claims outgo when setting premium rates and reserves. It should also be able to set sensible policy conditions to help control the risk. As a result the company will be less likely to use reinsurance to help with these areas as well as generally limit the claims exposure.) - the insurer’s available free assets
- the size of the insurer’s portfolio
- the range within which the business outcome (or profit) can be forecast with confidence.
Why might reinsurers knowingly write loss-making business?
- If it expects to obtain compensating higher future profits or profits from other connected business.
- At the bottom of the (re)insurance cycle, premiums across the market will be low, and so in order to retain market share, reinsurance companies will be forced into accepting loss-making business.
Solvency margin
The excess of the value of the assets over the value of the liabilities.
How might reinsurance decrease the value of the liabilities?
By reinsuring the business, the insurer is reducing the value of its liabilities (as some of its liabilities are ceded to the reinsurer).
Typical basis for retrocession protections
An excess of loss basis
2 Ways of writing reinsurance business
- Facultatively (arranged individually for each risk requiring reinsurance)
- By treaty (whereby groups of similar risks are reinsured on pre-arranged terms under one reinsurance arrangement)