November 11th, 2009

Reinsurance Brokers: Orderly Markets and Optimized Results, Benefits to Capital Suppliers

Posted at 12:30 AM ET

klein_chris_bioChris Klein, Global Head of Business Intellience
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Intuitively, the reinsurance broker’s role as client advisor would appear unfavorable to reinsurers. After all, the broker seeks — in part — to secure advantageous pricing for its client. The measures taken to lower the insurer’s cost to transfer risk, however, usually enables reinsurers to manage their own portfolios more effectively. From the introduction of the business opportunity through post-transaction capital management, the reinsurer can use the broker’s involvement to bolster its operation.

Of course, the primary upside is the availability of buyers. Reinsurance brokers bring cedents to reinsurers, effectively bringing leads to them. Financially sound reinsurers, therefore, may experience lower client and revenue acquisition costs because of an intermediary’s involvement. The apparent hidden cost in this relationship is that of maintaining a strong balance sheet and smooth operation — which are broadly beneficial to the reinsurer anyway.

The business that brokers bring to reinsurers also tends to be of higher quality. The services provided to the cedent (such as risk and capital modeling) result in a portfolio of risks that has been evaluated carefully. Reinsurers thus have a better sense of what they are assuming and can manage their portfolios accordingly. Thus, the reinsurer can gauge the sufficiency of its own capital more closely and make informed decisions about risk retention and transfer. Nowhere is this clearer than in catastrophe modeling.

For many cedents, catastrophe and capital modeling is among the chief reasons they rely on reinsurance brokers, especially for smaller insurers that may not have the resources to bring these capabilities in-house. In addition to working with the three major risk modeling vendors regularly — i.e., AIR Worldwide, Risk Management Solutions and EQECAT — a savvy reinsurance broker will develop proprietary modeling capabilities, either as standalone solutions or integrated with the platforms offered by the catastrophe modeling firms.

Guy Carpenter, for example, uses output from these companies to conduct further analyses using our proprietary i-aXs® solution and models the financial implications of reinsurance structures and loss scenarios with MetaRisk®, our proprietary capital model. The commitments to innovation by reinsurance brokers not only help cedents manage their risks and capital, they also result in reinsurance purchases that reflect an insurer’s needs, leading to an increased likelihood of satisfaction with the transaction.

The modeling services that intermediaries provide to cedents — and thus indirectly to reinsurers — are part of a broader advisory role that the reinsurance broker brings to the risk management transaction. A plethora of factors influence the decision of whether (and how) to move risk out of a cedent’s portfolio. The implications for an insurer’s rating, for example, can shape the decision of how much risk to transfer, as cedents seek to demonstrate their financial soundness. Regulatory factors also play into the process. In addition to Solvency II, which will call for changes in capital requirements for European (re)insurers, other regulations can have a granular effect on specific reinsurance structures.

The advisory services that a reinsurance broker provides can help both the insurer and reinsurer unearth potentially mutually beneficial situations, resulting in a relationship that leaves both parties more satisfied than they may have been otherwise. Though the intermediary only represents the interests of its client, its involvement ultimately supports an efficient and thorough risk transfer experience, closing any gaps that could impair either side of the transaction later.

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