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AAAAAAHHHHH > Reinsurance > Flashcards

Reinsurance Flashcards

1
Q

Balance Sheet <—> Schedule F

6 items

A

Schedule F (Part 3)
- Amount recoverables from reinsurers (assets)
- UEP for ceded reinsurance (parenthetical amount) (liability)
- Ceded reinsurance premiums payable (net) (liability)
- Funds (collateral) held by company under reinsurance treaties (liability)
- Provision for reinsurance (liability)

Schedule F (Part 1)
- Reinsurance payable on paid loss + LAE (liability)

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2
Q

Reinsurance Provision

Definition

A

Minimum reserve (calculated under SAP) that reflects estimated uncollectible reinsurance recoveries

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3
Q

Which BS Items Change Net vs Gross of Reinsurance

A

Assets
- Reinsurance recoverable on loss + LAE payment
- Net amount recoverable from reinsurer (used to balance surplus = A - L)

Liability
- Loss & LAE
- Unearned premium
- Ceded reinsurance premiums payable
- Funds (collateral) held by company under reinsurance treaties
- Provision for reinsurance

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4
Q

Schedule F as a Solvency Monitor (Pros/Cons)

And improvements for cons

A

Strengths
- RP is formulaic - easy to compare across different years and companies
- hard to manipulate because inputs are numbers from financial statements
- RP accounts for reinsurer credit risk with penalties for (unauthorized reinsurer) and (slow-paying reinsurers)
- Shows impact to surplus if reinsurance contracts are canceled

Weaknesses
- RP is formulaic - may mask management’s better informed estimate of collectability risk
- RP penalizes (unauthorized) and (slow-paying) reinsurers regardless of their financial strength
- slow-paying threshold is arbitrary
- In general, doesn’t measure reinsurer’s solvency (true source of uncollectability risk)

Improvements (for monitoring reinsurer credit risk)
- Include management input of uncollectability risk
- Include reinsurer ratings, big factor in credit risk
- Disclose details of reinsurance arrangements.
- Make 20% slow-pay threshold more flexible and account for reasons for slow-pay

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5
Q

Schedule F as a Solvency Monitor

How

A
  • Tracks reinsurance transactions
  • Calculates reinsurance provision
  • Shows the effect on the insurer’s balance sheet of canceling all reinsurance
  • Quality of reinsurance –> risk of uncollectability from reinsurer –> solvency of insurer
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6
Q

Reinsurance Provision (Unauthorized Reinsurers)

A

= T - C + 20% * (Pn90 + Td)

Terminology:
- T = Total reinsurance recoverable (dispute + non-dispute)
- C = Collateral (letter of credit, ceded balances payable, other amounts due reinsurer)
- Pn90 = Recoverable paid > 90 days

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7
Q

Reinsurance Provision (Authorized Reinsurer)

A

Check slow paying ratio > 20%
- = Pn90 / (Pn + Recvd)

If slow paying:
- RP = 20% * max (T-C, Pn90 + Pd90)

If not slow paying:
- RP = 20% * (Pn90 + Pd90)

Terminology:
- T = total reinsurance recoverable (dispute + non-dispute)
- C = collateral (letter of credit, ceded balances payable, other amounts due reinsurer)
- Pn90 = recoverable paid > 90 days past due (NOT in dispute)
- Recvd = amount received prior 90 days

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8
Q

Certified Reinsurer

What is it, benefits

A
  • non-US reinsurer domiciled in a NAIC Qualified Jurisdiction
  • insurers not penalized as heavily (vs unauthorized reinsurer) –> reinsurance provison is lower
  • reinsurer can post collateral of < 100% of its US claims
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9
Q

Regulator Considerations for Certified Reinsurer Application

A
  • jurisdiction of reinsurer
  • rating from a rating agency
  • regulatory history
  • financial position
  • capital and surplus
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10
Q

Reasons for Commutation

Reasons, elaborate

A

Solvency: primary insurer and reinsurer may have concerns with each other’s solvency
- if reinsurer is weak, commutation eliminates credit risk for the insurer
- if insurer is weak, commutation provides immediate cash to the insurer and the reinsurer avoids future issues if insurer does go insolvent

Exit: provides a way for primary insurer and reinsurer to exit a particular market
- for primary insurer, they also have to do a loss portfolio transfer to a 3rd party

Disputes: primary insurer and reinsurer want to end their relationship because of of dispute
- disputes over claim resolution or contract provisions

Reserves: primary insurer and reinsurer have a big difference in estimated reserves
- commutation will leave them both thinking they’re getting a good deal

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11
Q

Loss Triangle Changes After Commutation

Primary and Reinsurer, gross/net/ceded paid/reserves/ult triangles

A

Primary Insurer
- Gross Paid/Reserves/Ult –> UNCHANGED
- Net Paid (after) = Net Paid (before) - commutation price
- Net Ult (after) = Net Paid (after) + Gross Reserves (before/after)
- Net Ult (after) = Net Ult (before) + Ceded Reserves (before) - commutation price
- Net Reserves (after) = Net Reserves (before) + Ceded Reserves (before) = Gross Reserves (before/after)
- Ceded Reserves (after) –> 0
- Ceded Paid (after) = Ceded Paid (before) + commutation price
- Ceded Ult (after) = Ceded Paid (after)

Reinsurer
- Gross Paid = Ceded Paid (insurer)
- Gross Reserve/Ult = Ceded Reserve/Ult * (1+%) = Gross Reserve/Ult (insurer) * QS * (1+%)
- (1+%) factor b/c reinsurer will have different view on reserves/ult

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12
Q

Change in Taxable Income After Commutation

Primary and Reinsurer

A

Primary Insurer
- commutation price - ceded reserves (before) * discount rate

Reinsurer
- Gross reserves (before) * discount rate - commutation price

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13
Q

Commutation Price

A

= reinsurer gross ult loss (after) - reinsurer gross paid loss (before)
= reinsurer gross paid (after) - reinsurer gross paid (before)

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14
Q

Conditions for Reinsurance Contract to Receive (Favorable) Accounting Treatment

A

Requires that significant insurance risk is assumed by the reinsurer
- Insurance risk must include U/W risk (uncertain if reinsurer will profit or loss)
- Insurance risk must include timing risk (no preset payment schedule in case of loss)

Requires that a significant loss to the reinsurer is reasonably possible

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15
Q

Qualitative Methods for Testing Risk Transfer

A

Is the transfer of risk self-evident?
- EQ, hurricane

If (significant loss NOT reasonably possible) but (reinsurer assumes substantially all risk) then (risk transfer may still exist)
- Often used with quota-share with high % transferred

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16
Q

Quantitative Methods for Testing Risk Transfer

A

If Expected Reinsurer Deficit (ERD) > 1%, then there is a transfer of risk
- =Prob(NPV U/W loss to reinsurer) * NPV(U/W loss) / (Reinsurance Premium)
- = Prob(x) * Severity (x)

10-10 Rule
- Is the probablity that the reinsurer have a 10%+ UW loss ≥ 10%? If so, then there is a transfer of risk
- If reinsurer has ≥ 10% chance of ≥ 10% U/W loss, then there is a transfer of risk

17
Q

Quantitative Methods for Testing Risk Transfer

A

If Expected Reinsurer Deficit (ERD) > 1%, then there is a transfer of risk
- =Prob(NPV U/W loss to reinsurer) * NPV(U/W loss) / (Reinsurance Premium)
- = Prob(x) * Severity (x)

10-10 Rule
- Is the probablity that the reinsurer have a 10%+ UW loss ≥ 10%? If so, then there is a transfer of risk
- If reinsurer has ≥ 10% chance of ≥ 10% U/W loss, then there is a transfer of risk

18
Q

Profit Commissions (Pitfall)

Risk transfer test pitfall

A

Profit Commission
- payment from reinsurer to insurer when business is profitable (LR below certain %)
- do not include in risk transfer test b/c we only focus on reinsurer loss scenarios
- reinsurer may charge higher premium due to these profit commissions, which lowers probability that risk transfer exists

19
Q

Premiums, Expenses, Fees

Risk transfer test pitfall

A

Premiums
- use gross premiums
- consider all cash flows between insurer to reinsurer
- apply (LR caps, experience adjustments) to nominal premiums and then discount to PV

Reinsurer Expenses
- do not include in risk transfer test b/c not a cash flow between insurer and reinsurer

Commutation Fees
- Include in risk transfer test and any other fees that depend on future events

20
Q

Interest Rate, Evaluation Date

Risk transfer test pitfall

A

Interest Rate (pitfall) - if modeling/simulation is involved in risk transfer test
- same discount rate should be used in each simulation/scenario b/c interest rate risk/variability should not impact the risk transfer test
- rates should be reasonable & appropriate (AAA recommends risk free rate)

Evaluation Date (pitfall)
- impacts interest rate and which losses to be considered

21
Q

Parameter Selection

Risk transfer test general considerations, examples

A
  • Examples: interest rate, payment-pattern, loss distribution
  • Cash flow simulations for risk transfer test need appropriate parameters
  • Parameters not provided by contract should be determined by modelers and should be comfortable with assumptions and justifications (when asked by regulators)
22
Q

Parameter Selection - Interest Rate

Risk transfer test considerations

A

Interest Rate Considerations:
- rate selected should be > risk free rate b/c risk free rate is easily achievable
- lower rate –> higher PV(losses) –> over detect risk transfer
- use higher rate (like the reinsurer’s expected yield)?
- insurer likely would not know the reinsurer’s yield
- reinsurer’s higher yield might fail risk transfer test
- use yield curve (varing interest rates by duration)
- makes risk transfer test more strict b/c longer durations –> usually higher rate
- inconsistent with accounting standards b/c interest rates are varying by scenario

23
Q

Parameter Selection - Payment Pattern & Loss Distribution

Risk transfer test considerations

A

Payment Pattern Considerations:
- payment patterns should be based on historical experience and/or industry benchmarks
- need to be reasonable b/c this impacts risk transfer test

Loss Distribution Considerations:
- historical experience, industry benchmarks, judgement, all of the above
- most important is the right tail of the distribution (not much data there, could have high loss)

24
Q

Parameter Risk

Risk transfer test considerations

A

Parameter Risk Considerations
- risks that selected parameters are incorrect
- accounting for this risk will increase chance that risk transfer exists
- does this make sense? Yes, b/c the reinsurer is accepting this parameter risk
- parameter risk can be express implicitly (indirectly) or explicitly (directly)
- author prefers implicitly b/c of simplicity

25
Q

Pricing Assumptions & Commutation Clause

Risk transfer test considerations

A

Pricing Assumptions Considerations:
- use these assumptions to parameterize risk transfer test
- useful for small/immature books b/c less data
- BUT pricing assumptions are market-driven (less competitive market –> higher premium)
- preferable to use reinsurer’s actual data but insurer may not have access

Commutation Clause Considerations:
- commutation must be considered in the risk transfer test if it impacts cash flows
- commutation fee treated as premium

AAAAAAHHHHH (10 decks)

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