October 20th, 2013

Risk Transfer Demand

Posted at 1:00 AM ET

frankland_nick_bioNick Frankland, Chief Executive Officer, EMEA


Are the insurance and reinsurance industries adequately serving their clients in the transfer of risk? The question is a timely one because much recent discussion has focused on the entry of new capital into the industries and its effect on capacity and pricing. Regulatory and economic conditions have also concentrated minds on capital optimization with reinsurance playing an increased role in risk finance that may have deflected attention from the fundamental business of protecting against risk.

Is demand being fulfilled? At the very highest level, perhaps not. Over the past several years, gross domestic product (GDP) growth in the world’s largest insurance markets has been sluggish, and in some mature economies it has actually contracted. A Swiss Re study concludes that overall insurance penetration, defined as premiums as a percentage of GDP, has been in steady decline for several years. In 2012, the industry reported 2.4 percent growth in total real premiums compared to 3.2 percent growth in world GDP. This may be due to reduced purchases or lower prices, but it also suggests the insurance industry is not keeping pace with potential demand.

A common view is that catastrophe risk is a saturated commodity market, implying that demand is being satisfied. But between 1980 and 2012, 74 percent of total global economic losses from natural catastrophes were not insured and the gap between economic and insured catastrophe losses continues to widen. This is despite the fact that most of the new capital entering the reinsurance market has concentrated on the property catastrophe segment. Indeed, total catastrophe losses were greater than 0.5 percent of global GDP in 2011

This year’s floods in Germany are estimated to have caused up to EUR2.5 billion of insured losses, but the federal government has had to establish a state fund with EUR8 billion to cover infrastructure and private losses. In the United States the Federal Emergency Management Agency spent USD136 billion on disaster relief between 2011 and 2013 and the National Flood Insurance Program received USD12 billion to USD15 billion in January 2013 to fund Sandy losses. These were examples of unfulfilled demand. Financially strained governments are now more likely to consider ways to transfer these risks.

The “cat gap” is, however, the low hanging fruit. It has attracted much of the new capital because the peak perils are familiar, comprehensively modeled, easily priced and offer relatively simple entry and exit. Other perils and risks are more difficult to assess and are where many gaps may exist.

The liability segment is particularly challenging. Motor insurance in Europe is under pressure from the growing use of periodic payment orders and the effects of indexation. The long-tail uncertainty has deterred new capital and in some cases reinsurers have responded by withdrawing cover.

Business interruption is another risk that continues to increase. Globalization, complex and deep inter-connectivity and “just-in-time” processes amplify the potential losses arising from interruptions. But demand for contingent business interruption cover has been hard to satisfy because of the difficulty in assessing the risk and providing economically priced cover.

There are challenges of new risks in other areas such as technology, science, medicine, climate change, population growth, food security and urbanization. The demand for cover, both actual and potential, clearly exists. Assessing new risks is difficult, but today we have a better understanding of risk than at any time in history. We have better science, analysis and tools to understand, measure and price risk and we must avoid the temptation to shy away from risk and instead embrace it.

Click here to register to receive e-mail updates >>

AddThis Feed Button
Bookmark and Share

Related Posts