The report, “Trading Risk: The Value of Relationships, Models and Face-to-Face Interaction in a Global Reinsurance Market”, finds each market can improve its ways of doing business by learning from the other.
“Reinsurance trading needs to become more professional,” according to lead author Paula Jarzabkowski, Professor of Strategic Management at Aston Business School in Birmingham. In the report, which was officially launched at the Monte Carlo Rendez-Vous last month, Professor Jarzabkowski explains: “The industry is shifting from a ‘craft industry’ based on individual skills and relationships, to transferable skills and business-to-business relationships. The reinsurance industry has not always shown enough discrimination in either developing professional skills or pursuing business relationships.”
The report, which was sponsored by the Insurance Intellectual Capital Initiative (IICI)—a consortium of insurance industry companies associated with Lloyd’s to support research on the insurance market— makes recommendations on how to maximise value from a portfolio of business relationships, as well as how to improve the effectiveness and quality of reinsurance trading skills.
Over the past 20 years, the reinsurance industry has experienced three profound forces for change. First, technological change has improved information distribution and strengthened connections between global markets. Second, regulatory emphasis on global equivalence in trading practices has generated pressure for convergence across different marketplaces. Third, the widespread acceptance of vendor property catastrophe models has led to more standardised approaches to the evaluation of reinsurance risks, levelling the playing field for decision-making on at least some classes of business.
"Face-to-face interaction is a scarce resource that should be conserved for those parts of the trading process where it can add the most value."
The year-long ethnographic study makes a comparison of the extent of face-to-face, phone and email interaction in different phases of the trading process in Lloyd’s and Bermuda. As shown in Figure 1, both markets engage equally in face-to-face interaction during the client meetings that are part of the pre-submission phase. These presubmission activities take the following forms. First, there are meetings between brokers, clients and reinsurers at industry conferences, such as the Reinsurance Rendez-Vous in Monte Carlo, and followup conferences in Baden-Baden and PCI in the United States. These interactions are always face-to-face, although their value has to be questioned, the report says, given the brevity of meetings, which can be as short as 25 minutes. Both markets also see a continuous stream of clients on roadshows, as London and Bermuda are popular places to visit, bringing the possibility of some golf, deep-sea fishing or opera, as well as business. Additionally, there is high-profile corporate entertainment, such as trips to ski resorts and islands, which, while less frequent, occur for senior executives and their spouses in both markets. While these relationship-building activities are undoubtedly fun, they need to be systematically applied to achieve specific valueadding objectives.
The major differences between Lloyd’s and Bermuda occur during the quoting and binding phases. While Lloyd’s underwriters typically negotiate with brokers in person, Bermuda market underwriters tend to exchange information via phone or email.
“In Lloyd’s, the initial ‘gut feel’ or intuitive impression comes from the face-to-face submission, during which the broker explains the firm-specific, regional or historical context in which the program and cedant are situated and which should be considered in subsequent analysis,” the study finds. “The Lloyd’s market is good at evaluating programs in context. This is why Lloyd’s is able to make judgements on unusual or complex programs, even those with lower margins or hard-to-model qualities.”
In Bermuda, however, “underwriters form their initial ‘gut feel’ when they look at the modelled results. If the analysis is not favourable, the underwriter calls the broker for more information” and asks a risk analyst “to remodel in light of that information”. That process is a reason why Bermuda underwriters “have traditionally struggled to write information-scarce, hard-to-quantify risks”, the study finds.
The 32-page report, which is based on data from audio and video recordings of more than 800 reinsurance transactions in both markets, and is co-authored by Dr Michael Smets and Dr Paul Spee, lecturers in strategic management at Aston Business School, covers four main areas.
The findings in Section 1, entitled ‘Evaluating face-to-face and electronic trading’, illustrate areas of convergence, but also substantive differences in workflow and risk evaluation between the markets. This section introduces some stereotypical, yet commonly held beliefs about the differences in broking and underwriting in the Lloyd’s and Bermuda markets. It then dispels the myths underpinning these stereotypes by showing several areas of convergence between the two markets.
Section 2, entitled ‘No one best way’, notes that there are advantages and disadvantages to doing business in either Lloyd’s or Bermuda. However, the two cases indicate strategic aspects of each market that are significant for industry evolution and that represent opportunities and threats for the reinsurance industry as a whole. This section lists six key recommendations to address inefficiencies and redundancies. They are: (1) Distinguish the purpose of client meetings; (2) Develop focused retail and wholesale broker intermediation (3); Establish faceto- face contact on a ‘need-to-know’ basis; (4) Identify those information deficits under which face adds value; (5) Avoid duplication of paperand electronic information; (6) Identify and minimise ritualistic use of face-to-face contact, such as signing the slip.
The third section, ‘Addressing inefficiencies and redundancies’, develops frameworks for relationship management, risk evaluation and selective application of face-to-face, phone and email contact to improve both the quality and efficiency of the trading process.
In Section 4, ‘Recommendations: Modularisation’, the trading process is broken down into specific modules of activity, with recommendations for best practice in each module. Reinsurance firms and broking houses can use this modularisation process as a guide to evaluating and changing their current practices.
Professor Jarzabkowski notes, “we’ve established that reinsurance trading needs to become more professional. But is the shift happening? Yes, it is. But it is still occurring largely through natural evolution, rather than purposeful strategic change. The recommendations from this study can support reinsurance firms and broking houses in systematically strengthening their trading practices in order to capitalise on the opportunities afforded by industry-level change.”
Specifically, broking and underwriting firms can better evaluate relationships, using a portfolio approach that enables them to allocate attention, resources and effort according to the value of any specific relationship. Risks can be classified according to the extent to which they require standardised or tailored approaches to analysis and pricing. This will ensure that the best quality of decision-making is applied to those risks where it is most warranted. Finally, face-to-face interaction is a scarce resource that should be conserved for those parts of the trading process where it can add the most value. The process models developed in the report enable brokers and underwriters to distinguish when it is most effective to apply face-to-face or electronic interaction throughout the trading process.
These specific recommendations can be strengthened by incorporating them into a modularised process that enables clear links between the different activities in the trading process. And it is this effective modularisation that will support the growing professionalisation of the reinsurance industry.
Paula Jarzabkowski is Professor of Strategic Management at Aston Business School. She can be contacted at: P.A.Jarzabkowski@aston.ac.uk
Bermuda, Lloyd's, reinsurance, relationships, Aston Business School