Reinsurance cessions in 2012: Set to rise or fall? · Reinsurance cessions in 2012: Set to rise or...

Reinsurance cessions in 2012: Set to rise or fall? The impact of reinsurance on risk capital

Solvency II Market Event, Turkey Istanbul, 15 July 2009Ali MajidiSolvency ConsultingIntegrated Risk Management, Munich Re

Current status of Solvency II

Practical insights: Sample Company

Reinsurance cessions in 2012: Set to rise? Or fall?

Agenda

2

The three-pillar approach goes beyond pure regulation, …

… will be mandatory for all insurance companies in the EU

Solvency II

... and provides motivation to introduce internal models

Supervisory process

Quantitative supervision

Minimum capital requirements

Solvency capital requirements

Market discipline

External reporting

Qualitative supervision

Supervisory review process (SRP)

Internal control system

Risk management

Pillars I and II will result in reviews of reinsurance strategy

3

A.M. Best study, March 2008: Solvency-related trends for insurance markets

Countries where most companies and segments face little change in their regulatory capital requirements

UK – Unit-linked and annuity writers

France – Mutuals

Some Scandinavian countries and Luxembourg –Captives Countries where

the picture is still unclear

Countries where some segments may be more heavily impacted:

4

Traditional Solvency II

Economic view“The overall objective of prudential regulation must be to ensure that an insurer maintains, at all times, financial resources which are adequate, both as to amount and quality, to ensure there is no significant risk that its liabilities cannot be met as they fall due.” (CEIOPS Consultation Paper 20, 2.2)

From local GAAP to a Solvency II balance sheet

Statutory value of assets

Statutory value of liabilities.

Market value of assets

Best estimate of liabilities.

Riskmargin

“Market value” of technicalprovisions

Solvency CapitalRequirement

Ratio of required to available capital

Own fundsAvailablecapital

MinimumCapitalRequirement

5

QIS4 – calculation of the overall SCR

SCR: Solvency Capital RequirementBSCR: Basic SCRAdj: AdjustmentsSCRop: Operational riskNon-life

Premium and reserveCatastrophe

MarketCurrencyPropertyFixed interest EquitySpread riskConcentrations

HealthLong term UWShort term UWWorkers’ compensation

Counterparty/defaultLife

RevisionMortalityLongevityDisabilityLapseExpenseCatastrophe

P&C reinsurance works mainly in the SCRnl module!

6




Agenda

7

8

Underwriting figures for our sample company

A brief description of our sample company (1)

Total premium: €413m

Motor liability €189m

Other motor €97m

Personal accident €54m

Property €73m

Combined ratio: 99.95%

sample company’s portfolio

46%

23%

13%

18%

Motor liability Other motor

Pers. accident Property

9


Investments: €314m

Real estate €56m

Participations €9m

Other €249m

of which equities: €38m

of which bonds €204m

% invested in equities: 12.1 %

Investment structure of our sample company

Investment structure

18%

3%

2%

12%

65%

79%

Real estate ParticipationsOther investments EquitiesBonds

10

Assets: €314m

Real estate €56m

Participations €9m

Other €249m

Our sample company’s balance sheet


Equity & liabilities: €314m

Equity €112m

Liabilities €202m

Key figures for our sample company (in €m)


Total premium: 413

Motor liability 189

Other motor 97

General personalaccident 54

Windstorm/household 73

Combined ratio: 99.95%

Investments: 314

Property 56

Participations 9

Other 249

of which equities: 38

of which bonds: 204

% invested in equities: 12.1%

11


The Board decided to take part in QIS4.

The objective: to obtain an estimation of the capital needed according to the new solvency requirements

Available capital: €112m

Capital requirement: €70m

Solvency calculation under Solvency I

Solvency ratio:160%

Our Company

is “a safe partner”!

12

Capital EAGLE

Solvency I balance sheet QIS4 balance sheet

Our sample company’s QIS4 study (1)

Solvency ratio:112/70 = 160%

The move to an economic balance sheet

Solvency ratio:186/187= 99%

112

314202

70

0

50

100

150200

250

300

350

400

Assets Liabilities Solvency I capital req.

187

342

142

14

186

0

50

100

150200

250

300

350

400

Assets Liabilities QIS4 capital requirement

Investments Liabilities Available capital Capital requirement Investments Best estimate Available capitalMarket value margin SCR

13

QIS4 risk capital (SCR) before reinsurance


Underwriting risk is the main driver by far of the poor solvency situation

187

310 30

165

14

8

0

50

100

150

200

250

NL UW risk Health risk Market risk Default risk Op. risk Diversification SCR

SCR NL UW risk Health risk Market risk Default risk Op. risk Diversification

14

Underwriting risk capital for non-life before reinsurance

Pr.& R risk. Cat. risk Diversification NL UW risk

110

122 68

165

0

50

100

150

200

250

Pr.& R Risk. Cat. Risk Diversifikation NL uw Risk

A major part of the underwriting risk results from the catastrophe exposure

15


The Supervisory Board has called for immediate action by the Directors.

The objective: to maintain an adequate capital levelwithout the need for a capital increase

Available capital: €186m

Capital requirement: €187m

Solvency calculation for our sample company according to QIS4

Solvency ratio:99%

16

Summary of QIS4

Is our Company

still such a safe partner???

Capital BEAGLE

The reinsurer has modelled various reinsurance programmes

Peak risk cover (PeakRisk)Pure non-proportional covers with high first-loss retentions

Pure non-proportional cover (NP)Pure non-proportional covers with low first-loss retentions

MTPL quota share and NP cover (MTPL50+NP)Cession of quota share in motor third party liability to improve diversification and non-proportional reinsurance cover of the amount retained with a low first-loss retentionPure non-proportional cover with low first-loss retentions in the other classes

Quota shares and NP cover (All 50+NP)Cession of quota share in all classesNon-proportional reinsurance cover for amount retained with low first-loss retention

17

Impact of reinsurance programmes

Change in NL underwriting risk capital under QIS4with the "PeakRisk" programme

Underwriting risk capital for non-life after reinsurance with the "PeakRisk" programme

The capital requirement for catastrophe risks can be brought down considerably by reducing peak risks This results in a capital saving of 32% of the (gross) underwriting capital requirement

-52-3

-88-39

-120

-80

-60

-40

-20

0Pr.& R. risk Cat. risk Diversification NL UW risk

112107

34 29

020406080

100120140160180200

Pr.& R. risk Cat. risk Diversification NL UW risk

-100

NL UW risk Pr.& R risk. Cat. risk Diversification NL UW risk Pr.& R risk. Cat. risk Diversification

18

Reduction in underwriting risk capital using “PeakRisk” under QIS4 (SCRNL)

Change in QIS4 risk capital (SCR) after "PeakRisk" reinsurance programme

QIS4 risk capital (SCR) after "PeakRisk" reinsuranceprogramme

Reduction in required risk capital (SCR) using “PeakRisk” under QIS4

The capital requirement for underwriting is reduced substantially Less diversification at module levelResultant capital saving is 27% of the (gross) QIS4 capital requirement

136

30

0,2 29

112

148

0

20

40

60

80

100

120

140

160

180

NL uw risk Health risk Market risk Default risk Op. risk Diversification SCR

-51

0 0,2 -1

-52

0 0

-60

-50

-40

-30

-20

-10

0

10

NL uw risk

Health risk Market risk DefaultrRisk Op.rRisk Diversification SCR

19

Risk capital can be significantly reduced with the help of reinsurance However, the model can still produce implausible results

187

136 143

110

81

0

50

100

150

200

No reins. PeakRisk NP MTPL50+NP All 50+NP

Risk capital after reinsurance

In comparison with the PeakRisk programme, the NP programme improves the risk situation, but underwriting risk capital is higher

20

Comparison of the effects of different RI programmes on QIS4 risk capital

Collection and preparation of data

Stochastic simulation of the portfolio

Definition of distributions of aggregate losses for

each class of business and whole portfolio

Definition of distributions of aggregate losses

allowing for reinsurance

Gross distribution of aggregate losses

0%

1%

2%

3%

4%

5%

0 100 200 300 400 500 600

Distribution of aggregate lossesNP and gross

0%

1%

2%

3%

4%

5%

0 100 200 300 400 500 600

21

General approach to defining the model


Comparison of the effect on risk of the four reinsurance programmes


Risk capital

No reinsurance: €133m

PeakRisk: €53m

NP:€49m

MTPL50 + NP: €36m

All 50 + NP: €24m

0%

2%

4%

6%

8%

10%

0 100 200 300 400 500 600

Losses (€m)

Prob

abili

ty

Distribution of aggregate losses

Risk capital can be significantly reduced by reinsurance,enabling it to be aligned with a company’s appetite for risk

22

By the efficient use of reinsurance, we can be even stronger than we were, without the need for a capital increase and even under Solvency II the

company will still merit the name “Capital EAGLE”!

187

136 143

110

81

177

102 9772

59

0

50

100

150

200


QIS4 standard approach QIS4 partial internal model

Risk capital after reinsurance

23

Comparison of the effects produced using a stochastic model: Risk capital after RI – QIS4 vs. partial internal model




Agenda

24

Increased transparency and complexity in the risk situation, for which the implementation of Solvency II will act as a catalyst

Summary of the comparative analysis (1)

For Solvency II, a risk-based view of companies in their entirety is needed in order to

achieve greater transparency

depict the complex correlations that exist

A deeper insight into the risk situation as whole is necessary to achieve the required transparency

In property-casualty insurance, underwriting is the main driver of risk and complexity

The switching of the focus to risk can have a dramatic effect on the capital situation (the Solvency II solvency calculation can lower the solvency ratio considerably)

Quantitative models help provide a better holistic view of an insurance company’s risk situation

An important factor is the effect of reinsurance on underwriting risk

A standard model often fails to depict underwriting properly because of the heterogeneity of insurance portfolios

This shortcoming is further aggravated by the availablity of tailor-made reinsurance solutions

Due to the complexity of individual business models, quantitative (partial) internalmodels will be needed

Summary of the comparative analysis (2)


Or rise?

Reinsurance cessions in 2012:

What is YOUR view?

and

Reinsurance in 2012 will be more tailor-made!Portfolio structure (classes of business, regional structure)

Size and structure of company

…

Reinsurance in 2012 will be more comprehensive!Diversification (growth opportunities for smaller companies)

Securitisations (larger companies will benefit)

…

Set to fall?


What will reinsurance mean in 2012?Traditional reinsurance Non-traditional reinsuranceHolistic view of companies’ balance sheets

Are companies making enough use of reinsurance for balance-sheet management?

Falling cession rates in recent yearsdespite the fact that

reinsurance is the simplest and most flexible way of managing a balance sheet and hence

will remain one of the best balance-sheet management tools (even) under Solvency II, especially for small and medium-sized companies


What is your view?

Thank you for your attention.

Dr. Ali MajidiSolvency ConsultingIntegrated Risk Management, Munich Re

31


Cost-benefit analysis of reinsurance programmes

* Net premium + (Commission - costs) Gross PeakRisk NP MTPL50+NP All 50+NP

Net premium* - Losses 86 84 78 70 40

Risk capital 133 53 49 36 24

(Net premium - Losses)/Risk capital 64% 157% 159% 193% 167%

Appendix

Risk-benefit analysis

0

25

50

75

100

0 20 40 60 80 100 120 140 160

Risk capital (99.5% quantile) in €m

Net

pre

miu

m-lo

ss e

xpec

tanc

y in

€m

Gross PeakRisk NP MTPL50+NP All 50+NP

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Cost-benefit analysis of reinsurance programmes


Net premium* - Losses 86 84 78 70 40

Risk capital 133 53 49 36 24

(Net premium* - Losses)/Risk capital 64% 157% 159% 193% 167%


(1) Technical result 0 -3 -10 -5 -5

(2) Difference from gross risk capital (SCR) according to QIS4 partial internal model - 75 80 105 118

Result/difference ( (1)/(2) ) - 3,58 % 12,66 % 4,48 % 3,88 %

* Net premium + (Commission - costs)

Appendix

Reinsurance cessions in 2012: Set to rise or fall? · Reinsurance cessions in 2012: Set to rise or...

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