In each edition of EXPOSURE we ask three experts for their opinion on how they would tackle a major risk and insurance challenge. This issue, we consider how (re)insurers can gain more insight into the original risk, and in so doing, remove frictional costs. As our experts Kieran Angelini-Hurll, Will Curran and Luzi Hitz note, more insight does not necessarily mean disintermediation. Kieran Angelini-Hurll CEO, Reinsurance at Ed The reduction of frictional costs would certainly help. At present, there are too many frictional costs between the reinsurer and the original risk. The limited amount of data available to reinsurers on the original risks is also preventing them from getting a clear picture. A combination of new technology and a new approach from brokers can change this. First, the technology. A trading platform which reduces frictional costs by driving down overheads will bridge the gap between reinsurance capital and the insured. However, this platform can only work if it provides the data which will allow reinsurers to better understand this risk. Arguably, the development of such a platform could be achieved by any broker with the requisite size, relevance and understanding of reinsurers’ appetites. Brokers reluctant to share data will watch their business migrate to more disruptive players However, for most, their business models do not allow for it. Their size stymies innovation and they have become dependent on income derived from the sale of data, market-derived income and ‘facilitization’. These costs prevent reinsurers from getting closer to the risk. They are also unsustainable, a fact that technology will prove. A trading platform which has the potential to reduce costs for all parties, streamline the throughput of data, and make this information readily and freely available could profoundly alter the market. Brokers that continue to add costs and maintain their reluctance to share data will be forced to evolve or watch their business migrate to leaner, more disruptive players. Brokers which are committed to marrying reinsurance capital with risk, regardless of its location and that deploy technology, can help overcome the barriers put in place by current market practices and bring reinsurers closer to the original risk. Will Curran Head of Reinsurance, Tokio Marine Kiln, London More and more, our customers are looking to us as their risk partners, with the expectation that we will offer far more than a transactional risk transfer product. They are looking for pre-loss services, risk advisory and engineering services, modeling and analytical capabilities and access to our network of external experts, in addition to more traditional risk transfer. As a result of offering these capabilities, we are getting closer to the original risk, through our discussions with cedants and brokers, and our specialist approach to underwriting. Traditional carriers are able to differentiate by going beyond vanilla risk transfer The long-term success of reinsurers needs to be built on offering more than being purely a transactional player. To a large extent, this has been driven by the influx of non-traditional capital into the sector. Whereas these alternative property catastrophe reinsurance providers are offering a purely transactional product, often using parametric or industry-loss triggers to simplify the claims process in their favor, traditional carriers are able to differentiate by going beyond vanilla risk transfer. Demand for risk advice and pre-loss services are particularly high within specialist and emerging risk classes of business. Cyber is a perfect example of this, where we work closely with our corporate and insurance clients to help them improve their resilience to cyber-attack and to plan their response in the event of a breach. Going forward, successful reinsurance companies will be those that invest time and resources in becoming true risk partners. In an interconnected and increasingly complex world, where there is a growing list of underinsured exposures, risk financing is just one among many service offerings in the toolkit of specialist reinsurers. Luzi Hitz CEO, PERILS AG The nature of reinsurance means the reinsurer is inherently further away from the underlying risk than most other links in the value chain. The risk is introduced by the original insured, and is transferred into the primary market before reaching the reinsurer – a process normally facilitated by reinsurance intermediaries. I am wary of efforts to shortcut or circumvent this established multi-link chain to reduce the distance between reinsurer and the underlying risk. The reinsurer in many cases lacks the granular insight found earlier in the process required to access the risk directly. What we need is a more cooperative relationship between reinsurer and insurer in developing risk transfer products. Too often the reinsurers act purely as capital providers in the chain and from the source risk, viewing it almost as an abstract concept within the overall portfolio. The focus should be on how to bring all parties to the risk closer together By collaborating on the development of insurance products, not only will it help create greater alignment of interest based on a better understanding of the risk relationship, but also prove beneficial to the entire insurance food chain. It will make the process more efficient and cost effective, and hopefully see the risk owners securing the protection they want. In addition, it is much more likely to stimulate product innovation and growth, which is badly needed in many mature markets. The focus in my opinion should not be on how to bring the reinsurer closer to the risk, but rather on how to bring all parties to the risk closer together. What I am saying is not new, and it is certainly something which many larger reinsurers have been striving to achieve for years. And while there is evidence of this more collaborative approach between insurers and reinsurers gaining traction, there is still a very long way to go.
Insurers must harness data, technology and human capital if they are to operate more efficiently and profitably in the current environment, but as AXIS Capital’s Albert Benchimol tells EXPOSURE, offering better value to clients may be a better long-term motive for becoming more efficient. Efficiency is a top priority for insurers the world over as they bid to increase margins, reduce costs and protect profitability in the competitive heat of the enduring soft market. But according to AXIS Capital president and CEO Albert Benchimol, there is a broader, more important and longer-term challenge that must also be addressed through the ongoing efficiency drive: value for money. “When I think of value, I think of helping our clients and partners succeed in their own endeavors. This means providing quick and responsive service, creative policy structures that address our customers’ coverage needs, best-in-class claims handling and trusting our people to pursue their own entrepreneurial goals,” says Benchimol. “While any one insurance policy may in itself offer good value, when aggregated, insurance is not necessarily seen as good value by clients. Our industry as a whole needs to deliver a better value proposition — and that means that all participants in the value chain will need to become much more efficient.” According to Benchimol — who prior to being appointed CEO of AXIS in 2012 served as the Bermuda-based insurance group’s CFO and also held senior executive positions at Partner Re, Reliance Group and Bank of Montreal — the days of paying out US$0.55-$0.60 in claims for every dollar of premium paid are over. “We need to start framing our challenge as delivering a 70 percent-plus loss ratio within a low 90s combined ratio,” he asserts. “Every player in the value chain needs to adopt efficiency-enhancing technology to lower our costs and pass those savings on to the customer.” With a surfeit of capital making it unlikely the insurance industry will return to its traditional cyclical nature any time soon, Benchimol says these changes have to be adopted for the long term. “Insurers have to evaluate their portfolios and product offerings to match customer needs with marketplace realities. We will need to develop new products to meet emerging demand; offer better value in the eyes of insureds; apply data, analytics and technology to all facets of our business; and become much more efficient,” he explains. Embracing Technology The continued adoption and smarter use of data will be central to achieving this goal. “We’ve only begun to scratch the surface of what data we can access and insights we can leverage to make better, faster decisions throughout the risk transfer value chain,” Benchimol says. “If we use technology to better align our operations and costs with our customers’ needs and expectations, we will create and open-up new markets because potential insureds will see more value in the insurance product.” “I admire companies that constantly challenge themselves and that are driven by data to make informed decisions — companies that don’t rest on their laurels and don’t accept the status quo” Technology, data and analytics have already brought improved efficiencies to the insurance market. This has allowed insurers to focus their efforts on targeted markets and develop applications to deliver improved, customized purchasing experiences and increase client satisfaction and engagement, Benchimol notes. The introduction of data modeling, he adds, has also played a key role in improving economic protection, making it easier for (re)insurance providers to evaluate risks and enter new markets, thereby increasing the amount of capacity available to protect insureds. “While this can sometimes raise pricing pressures, it has a positive benefit of bringing more affordable capacity to potential customers. This has been most pronounced in the development of catastrophe models in underinsured emerging markets, where capital hasn’t always been available in the past,” he says. The introduction of models made these markets more attractive to capital providers which, in turn, makes developing custom insurance products more cost-effective and affordable for both insurers and their clients, Benchimol explains. However, there is no doubt the insurance industry has more to do if it is not only to improve its own profitability and offerings to customers, but also to stave off competition from external threats, such as disruptive innovators in the FinTech and InsurTech spheres. Strategic Evolution “The industry’s inefficiencies and generally low level of customer satisfaction make it relatively easy prey for disruption,” Benchimol admits. However, he believes that the regulated and highly capital-intensive nature of insurance is such that established domain leaders will continue to thrive if they are prepared to beat innovators at their own game. “We need to move relatively quickly, as laggards may have a difficult time catching up,” he warns. “In order to thrive in the disruptive market economy, market leaders must take intelligent risks. This isn’t easy, but is absolutely necessary,” Benchimol says. “I admire companies that constantly challenge themselves and that are driven by data to make informed decisions — companies that don’t rest on their laurels and don’t accept the status quo.” “We need to start framing our challenge as delivering a 70-percent plus loss ratio within a low 90s combined ratio” Against the backdrop of a rapidly evolving market and transformed business environment, AXIS took stock of its business at the start of 2016, evaluating its key strengths and reflecting on the opportunities and challenges in its path. What followed was an important strategic evolution. “Over the course of the year we implemented a series of strategic initiatives across the business to drive long-term growth and ensure we deliver the most value to our clients, employees and shareholders,” Benchimol says. “This led us to sharpen our focus on specialty risk, where we believe we have particular expertise. We implemented new initiatives to even further enhance the quality of our underwriting. We invested more in our data and analytics capabilities, expanded the focus in key markets where we feel we have the greatest relevance, and took action to acquire firms that allow us to expand our leadership in specialty insurance, such as our acquisition of specialty aviation insurer and reinsurer Aviabel and our recent offer to acquire Novae.” Another highlight for AXIS in 2016 was the launch of Harrington Re, co-founded with the Blackstone Group. “At AXIS, our focus on innovation also extends to how we look at alternative funding sources and our relationship with third-party capital, which centers on matching the right risk with the right capital,” Benchimol explains. “We currently have a number of alternative capital sources that complement our balance sheet and enable us to deliver enhanced capacity and tailored solutions to our clients and brokers.” Benchimol believes a significant competitive advantage for AXIS is that it is still small enough to be agile and responsive to customers’ needs, yet large enough to take advantage of its global capabilities and resources in order to help clients manage their risks. But like many of his competitors, Benchimol knows future success will be heavily reliant on how well AXIS melds human expertise with the use of data and technology. “We need to combine our ingenuity, innovation and values with the strength, speed and intelligence offered by technology, data and analytics. The ability to combine these two great forces — the art and science of insurance — is what will define the insurer of the future,” Benchimol states. The key, he believes, is to empower staff to make informed, data-driven decisions. “The human elements that are critical to success in the insurance industry are, among others: knowledge, creativity, service and commitment to our clients and partners. We need to operate within a framework that utilizes technology to provide a more efficient customer experience and is underpinned by enhanced data and analytics capabilities that allow us to make informed, intelligent decisions on behalf of our clients.” However, Benchimol insists insurers must embrace change while holding on to the traditional principles that underpinned insurance in the analog age, as these same principles must continue to do so into the future. “We must harness technology for good causes, while remaining true to the core values and universal strengths of our industry — a passion for helping people when they are down, a creativity in structuring products, and the commitment to keeping the promise we make to our clients to help them mitigate risks and ensure the security of their assets,” he says. “We must not forget these critical elements that comprise the heart of the insurance industry.”
Over the past 15 years, revolutionary technological advances and an explosion of new digital data sources have expanded and reinvented the core disciplines of insurers. Today’s advanced analytics for insurance push far beyond the boundaries of traditional actuarial science. The opportunity for the industry to gain transformational agility in analytics is within reach. EXPOSURE examines what can be learnt from other sectors to create more analytics-driven organizations and avoid ‘DRIP’. Many (re)insurers seeking a competitive edge look to big data and analytics (BD&A) to help address a myriad of challenges such as the soft market, increasing regulatory pressures, and ongoing premium pressures. And yet amidst the buzz of BD&A, we see a lack of big data strategy specifically for evolving pricing, underwriting and risk selection, areas which provide huge potential gains for firms. IMAGINE THIS LEVEL OF ANALYTICAL CAPABILITY PROVIDED IN REAL-TIME AT THE POINT OF UNDERWRITING; A UTOPIA MANY IN THE INDUSTRY ARE SEEKING While there are many revolutionary technological advances to capture and store big data, organizations are suffering from ‘DRIP’– they are data rich but information poor. This is due to the focus being on data capture, management, and structures, at the expense of creating usable insights that can be fed to the people at the point of impact – delivering the right information to the right person at the right time Other highly regulated industries have found ways to start addressing this, providing us with sound lessons on how to introduce more agility into our own industry using repeatable, scalable analytics. Learning From Other Industries When you look across organizations or industries that have got the BD&A recipe correct, three clear criteria are evident, giving good guidance for insurance executives building their own analytics-driven organizations: Delivering Analytics to the Point of Impact In the healthcare industry, the concept of the back-office analyst is not that common. The analyst is a frontline worker – the doctor, the nurse practitioner, the social worker, so solutions for healthcare are designed accordingly. Let’s look within our own industry at the complex role of the portfolio manager. This person is responsible for large, diverse sets of portfolios of risk that span multiple regions, perils and lines of business. And the role relies heavily on having visibility across their entire book of business. A WILLIS TOWERS WATSON SURVEY REVEALS THAT LESS THAN 45 PER CENT OF U.S. PROPERTY AND CASUALTY INSURANCE EXECUTIVES ARE USING BIG DATA FOR EVOLVING PRICING, UNDERWRITING AND RISK SELECTION. THIS NUMBER IS EXPECTED TO JUMP TO 80 PERCENT IN TWO YEARS’ TIME Success comes from insights that give them a clear line of sight into the threats and opportunities of their portfolios – without having to rely on a team of technical analysts to get the information. They not only need the metrics and analytics at their disposal to make informed decisions, they also need to be able to interrogate and dive into the data, understand its underlying composition, and run scenarios so they can choose what is the right investment choice. If for every analysis, they needed a back-office analyst or IT supporter to get a data dump and then spend time configuring it for use, their business agility would be compromised. To truly become an analytics-driven organization, firms need to ensure the analytics solutions they implement provide the actual decision-maker with all the necessary insights to make informed decisions in a timely manner. Ensuring Usability Usability is not just about the user interface. Big data can be paralyzing. Having access to actionable insights in a format that provides context and underlying assumptions is important. Often, not only does the frontline worker need to manage multiple analytics solutions to get at insights, but even the user persona for these systems is not well defined. At this stage, the analytics must be highly workflow-driven with due consideration given to the veracity of the data to reduce uncertainty. Consider the analytics tools used by doctors when diagnosing a patient’s condition. They input standard information – age, sex, weight, height, ethnicity, address – and the patient’s symptoms, and are provided not with a defined prognosis but a set of potential diagnoses accompanied by a probability score and the sources. Imagine this level of analytical capability provided in real-time at the point of underwriting; a Utopia many in the industry are seeking that has only truly been achieved by a few of the leading insurers. In this scenario, underwriters would receive a submission and understand exactly the composition of business they were taking on. They could quickly understand the hazards that could affect their exposures, the impact of taking on the business on their capacity – regardless of whether it was a probabilistically–modeled property portfolio, or a marine book that was monitored in a deterministic way. They could also view multiple submissions and compare them, not only based on how much premium could be bought in by each, but also on how taking on a piece of business could diversify the group-level portfolio. The underwriter not only has access to the right set of analytics, they also have a clear understanding of other options and underlying assumptions. Integration Into the Common Workflow To achieve data nirvana, BD&A output needs to integrate naturally into daily business-as-usual operations. When analytics are embedded directly into the daily workflow, there is a far higher success rate of it being put to effective use. A good illustration is customer service technology. Historically, customer service agents had to access multiple systems to get information about a caller. Now all their systems are directly integrated into the customer service software – whether it is a customer rating and guidance on how best to handle the customer, or a ranking of latest offers they might have a strong affinity for. SKILLED UNDERWRITERS WANT ACCESS TO ANALYTICS THAT ALLOW THEM TO DERIVE INSIGHTS TO BE PART OF THE DAILY WORKFLOW FOR EVERY RISK THEY WRITE It is the same principle in insurance. It is important to ensure that whatever system your underwriter, portfolio manager, or risk analyst is using, is built and designed with an open architecture. This means it is designed to easily accept inputs from your legacy systems or your specific intellectual property-intensive processes. Underwriting is an art. And while there are many risks and lines of business that can be automated, in specialty insurance there is a still a need for human-led decision-making. Specialty underwriters combine the deep knowledge of the risks they write, historical loss data, and their own underwriting experience. Having good access to analytics is key to them, and they need it at their fingertips – with little reliance on technical analysts. Skilled underwriters want access to analytics that allow them to derive insights to be part of the daily workflow for every risk they write. Waiting for quarterly board reports to be produced, which tell them how much capacity they have left, or having to wait for another group to run the reports they need, means it is not a business-as-usual process. How will insurers use big data? Survey of property and casualty insurance executives (Source: Willis Towers Watson)
In each edition of EXPOSURE, we ask three experts their opinion on how they would tackle a major risk and insurance challenge. This issue, we consider the protection gap, which can be defined as the gap between insured and economic losses in a particular region and/or type of exposure. As our experts John Seo, Kate Stillwell and Evan Glassman note, protection gaps are not just isolated to the developing world or catastrophe classes of business. John Seo Co-founder and managing principal of Fermat Capital The protection gap is often created by the terms of the existing insurance itself, and hence, it could be closed by designing new, parametric products. Flood risk is excluded or sub-limited severely in traditional insurance coverage, for instance. So the insurance industry says “we cover flood”, but they don’t cover it adequately and are heavily guarded in the way they cover it. A great example in the public domain was in 2015 in the Southern District Court of New York with New York University (NYU) versus FM Global. NYU filed a claim for $1.45 billion in losses from Hurricane Sandy to FM Global and FM Global paid $40 million. FM Global’s contention was that it was a flood clause in NYU’s coverage that was triggered, and because it was a flood event in essence their coverage was limited to $40 million. Ten to 20 years down the line… we might find that we’re actually naked on cyber Ostensibly on the surface NYU had $1.85 billion in coverage, but when it came to a flood event they really only had $40 million. So the protection gap is not just because there’s absolutely no insurance coverage for these types of perils and risks in these geographies and locations, but because the terms of protection are severely sub-limited. And I would claim that’s the case for cyber risk for sure. The industry is very enthusiastic about its growth, but I can see, 10 to 20 years down the line, with a significant national event on cyber that we might find that we’re actually naked on cyber, as NYU discovered with Sandy. You could have a Fortune 50 company in the U.S. thinking they have $1 billion of cyber coverage, and they’re going to have an event that threatens their existence… but they’ll get a check for $50 million in the post. Kate Stillwell Founder and CEO of Jumpstart Recovery My absolute fundamental goal is to get twice as many people covered for earthquake in California. That doesn’t mean they’re going to have the same kind of earthquake insurance product that’s available now. What they will have is a product which doesn’t fill the whole gap but does achieve the goal of immediate economic stimulus, and that creates a virtuous circle that gets other investment coming in. I wouldn’t have founded Jumpstart if I didn’t believe that a lump-sum earthquake-triggered cover for homeowners and renters wouldn’t help to build resilience… and building resilience fundamentally means filling the protection gap. I am absolutely motivated to ensure that people who are impacted by natural catastrophes have financial protection and can recover from losses quickly. Developing resources and financial products that tap into human optimism can fill this gap And in my mind, if I had to choose only one thing to help close the protection gap, it would be to align the products (and the resources) that are available with human psychology. Human beings are not wired to process and consider low-probability, high-consequence catastrophe events. But if we can develop resources and financial products that tap into human optimism then potentially we can fill this protection gap. Providing a bit of money to jumpstart the post-earthquake recovery process will help to transform consumer thinking around earthquakes from, ‘this is a really bad peril and I don’t want to think about it’ into, ‘it won’t be so bad because I will have a little bit of resource to bounce back’. Evan Glassman President and CEO, New Paradigm Underwriters There’s a big disconnect between the insured loss and economic loss when it comes to natural catastrophes such as U.S. windstorm and earthquake. From our perspective, parametric insurance becoming more mainstream and a common and widely-adapted vehicle to work alongside traditional insurance would help to close the protection gap. The insurance industry overall does a good job of providing an affordable large limit layer of indemnity protection. But the industry is only able to do that, and not go out of business after every event, as a result of attaching after a significant buffer layer of the most likely losses. Parametric insurance is designed to work in conjunction with traditional insurance to cover that gap. The tranche of deductibles in tier one wind-zones from the Gulf Coast to the Northeast has been estimated at $400 billion by RMS… and that’s just the deductible tranche. Parametric insurance is designed to work with traditional insurance to cover the gap The parametric insurance space is growing but it hasn’t reached a critical mass yet where it’s a mainstream, widely-accepted practice, much like when people buy a property policy, they buy a liability policy and they buy a parametric policy. We’re working towards that and once the market gets there the protection gap will become a lot smaller. It’s good for society and it’s a significant opportunity for the industry as it’s a very big, and currently very underserved market. This model does have the potential to be used in underdeveloped insurance markets. However, I am aware there are certain areas where there are not yet established models that can provide the analytics for reinsurers and capital markets to be able to quantify and charge the appropriate price for the exposure.
EXPOSURE investigates how traditional reinsurers, recognizing that third-party capital provides an opportunity rather than a threat, are opting to build or buy their own insurance-linked securities (ILS) fund management capabilities. The property catastrophe reinsurance industry has undergone a rapid transformation over the past decade as capital from institutional investors has flooded into the sector. Attracted by solid returns and an asset class that is uncorrelated to their other investments, investors steadily increased their allocations to ILS. At the same time as the resulting demand for product has intensified, collateralized reinsurance has overtaken catastrophe bonds as the dominant source of ILS capacity. As this institutional capital flooded into the peak zones of Florida wind, California earthquake and Japanese wind and earthquake, traditional reinsurers initially felt displaced. Excess capital, several years of benign catastrophe losses and differing risk and return appetites among the so-called “alternative” capital has heightened competition and eroded rates-on-line. 2015 saw a 3.5 percent reduction in traditional capital dedicated to reinsurance, down US$13 billion to US$357 billion according to Willis Re, reflecting the challenging operating environment and record volume of M&A activity among other drivers. The reduction was offset by the continued growth in non-traditional capital, which hit new heights of US$70 billion. Opportunity or Threat? Capital Growth for Dedicated ILS Funds and Reinsurer Third-Party Capital Managers More progressive reinsurance companies recognize this non-traditional capital is here to stay and the opportunities it presents if properly harnessed. While dedicated ILS funds still dominate the market in terms of assets under management, in recent years more reinsurers have sought to leverage these opportunities, setting up their own dedicated ILS funds, sidecars or special purpose syndicates to offer cedants a broader array of risk transfer tools while tapping third-party capital. Aspen, Everest Re, Hannover Re and Munich Re were among those who significantly increased sidecar capital earlier in 2016; there was also marked growth in managed fund capacity by Hiscox (Kiskadee Re), Validus Re (AlphaCat) and Lancashire (Kinesis) among others. Some have sought to access third-party capital by investing in existing players, with Leadenhall’s increased stake in Amlin, Markel’s acquisition of CATCo and Endurance’s acquisition of Blue Capital (as part of its acquisition of Montpelier Re), as recent examples. Managed fund capacity arguably combines the best underwriting with the most efficient forms of capital in the markets where it is deployed. The collateralized reinsurance platforms have access to the track record, underwriting expertise and catastrophe modeling and analytics know-how of the parent company, while the parent company gains access to considerable capital not held within its own balance sheet. Reinsurers are also able to target different business through their third-party management capabilities. Generally, pure ILS funds prefer “cleaner”, modelable business, whereas a traditional reinsurance company has access to the whole market. However, a reinsurer-owned fund is able to leverage the parent company’s existing infrastructure, access to business and its suite of risk management and pricing tools in order to offer something that is different from some of the independent ILS funds. Third-Party Reinsurance Capital Volume ($B) This is attractive to investors, particularly those looking to diversify away from property catastrophe peak perils into other classes of business. One trend for the collateralized reinsurance market is its growth outwards, both by territory and line of business. The ability to apply catastrophe models and exposure management tools in this bid for diversification is becoming a key differentiator for ILS funds. “THE ABILITY TO APPLY CATASTROPHE MODELS AND EXPOSURE MANAGEMENT TOOLS IN THIS BID FOR DIVERSIFICATION IS BECOMING A KEY DIFFERENTIATOR FOR ILS FUNDS.” Lancashire’s Kinesis Capital, for instance, has been set up as a multi-class, fully collateralized reinsurance provider covering specialty classes such as marine among its product offerings, albeit backed by a strong analytical approach. And the trend looks set to continue. In April 2016, ILS publication Artemis noted that the launch of the RMS® Marine Cargo and Specie catastrophe risk model would provide an enhanced approach to marine risk quantification, helping ILS investors and capital to increase participation in the marine insurance and reinsurance market. There are signs that some of the independent funds are recognizing the great benefit of having in-house catastrophe modeling and analytics capabilities, opting to license reinsurance catastrophe models or hire reinsurance talent from markets such as Lloyd’s and Bermuda to bolster their offerings. The boundary between the traditional reinsurance market and ILS arena will continue to blur in the coming years as market players seek to combine the best underwriting – and modeling and analytics expertise – with the most efficient form of capital.