At the heart of innovation

The recent plethora of formations of sidecars, hedge-fund backed underwriting vehicles, new life reinsurers and other risk transfer startups will mean a long period of evolution and further innovation in this sector as these vehicles evolve, grow and become ever more sophisticated.

That is the view of Sioned Evans, a senior manager within the re/insurance group at KPMG in Bermuda, who provides audit and advisory services to a broad range of insurers and reinsurers. She is also a member of KPMG in Bermuda’s insurance-linked securities (ILS) specialist group.

“Going forward I think these models will continue to evolve and grow in their scope and sophistication—I don’t think they will retract,” she says. “As they become more established and mature some could take the next step and complete an IPO, taking a step away from their original backers or parent company.”

Evans also predicts that the linear nature of the business model of risk transfer could become increasingly disrupted in future years, with the ultimate client more likely to work directly with capital providers via such vehicles.

“I also expect there to be more direct distribution lines between insurance companies and investors,” she says. “This is driven by attempts to reduce costs from the business model with potential for further disintermediation of the brokers.

“I see some innovation possibly coming from this sector and we may well see many types of new bonds emerge. The market has traditionally focused on property-cat risks but we have seen more private placements and more corporates entering the market directly. It is an exciting time for the sector.”

Product diversification

“On top of this, the types of risks will diversify,” says Evans.

“A lot of these vehicles are becoming more sophisticated, with more available data being effectively used to model the risks and tailor the product offering and terms of coverage than previously.

“I believe we will see more variety in the products and risks transferred, including cyber risk, as time goes on. Reinsurers have been under significant pressure in the current market putting pressure on all to diversify their strategy. In the long term more geographies and emerging risks will need to be insured and the demand will rise globally.”

This trend has already changed the basic business model of many reinsurers. There are few that do not now have some sort of facility offering them access to capital markets investors. Evans stresses that the business model of the reinsurers is evolving to cope with current pricing challenges, which show no sign of easing without significant market events.

“In the past six years I have seen these alternative forms of risk transfer become increasingly mainstream, with most traditional reinsurers forming their own vehicles as they adapt to changes in the market,” Evans says.

“There are not many left that do not have some type of facility and they will continue to adapt their structures and strategies to meet market demands. People still use the term convergence but the reality is that the days of the traditional reinsurer are long gone.

“Different models exist in the market with different strengths and weaknesses, all competing for premium, which puts pressure on the rates. People are looking for new opportunities of achieving the returns that shareholders and investors alike require.

“It forces people to innovate, to better understand the risks, and to use data to find new ways of managing and transferring risks.”

Evans adds that she is also observing more life re/insurers coming to Bermuda and showing an interest in alternative products.

A global hub

Amid this innovation, Evans says, Bermuda is firmly cementing its position as a global hub for ILS and all forms of alternative risk transfer, which is good news for the Island. But this is not by luck. A mixture of its sophisticated and world-class regulatory regime and its incumbent talent means that it is a natural location for such innovation to occur.

“Bermuda has remained firmly at the centre of ILS and other alternative risk transfer models as they have evolved,” she says. “There has been a big focus on the Island towards maintaining that position. Between the regulator and the expertise we have here we are able to tailor services to the requirements and strategies of clients so they are practical and fit for purpose.

“That makes it easier for people to stay aligned and understand what is needed. We have worked very hard to stay relevant and Solvency II equivalence is very important for the commercial reinsurers in Bermuda being able to access European risk in a cost-efficient manner. It is an ongoing process.”

Evans has worked at KPMG in Bermuda for some six years. She has been involved in the formation of a number of new vehicles in that time and the audit of many more. The firm acts as a claims reviewer on cat bonds that use indemnity triggers and it also advises clients when they are working on startups to create the best structure and domicile for a new vehicle, and can help with capital modelling.

She acknowledges that for all the growth and positivity in the sector, challenges lie ahead. The Internal Revenue Service in the US is investigating some forms of hedge fund-backed vehicles. She acknowledges that it is important for Bermuda and the professional community based there not to rest on their laurels when it comes to staying ahead of the curve of alternative risk transfer.

“A lot of the sidecars and ILS have been established in Bermuda. It is because of the quality of the regulatory regime and the talent and depth of expertise here. All that makes it a good place to do business and we must focus on maintaining that.

“Securing Solvency II equivalence was a very important step in terms of our reputation as a regulatory regime. We have this fantastic reputation and a great market share in the most innovative part of the market. We need to continue to build on that now.”