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While the ILS sector continues to grow and innovate, investors’ insistence on the use of tried and tested risk models, combined with a wariness of new risks, is holding the market’s development back, some cedants claim. Bermuda:Re+ILS investigates.
Despite the many innovations that have occurred in the insurance-linked securities (ILS) sector in recent years, and its continued appeal to investors even after some heavy losses, its growth may be stymied in some areas because of investors’ uncertainty around certain types of risks and models.
That is according to some cedants in Europe who have expressed a desire to use the ILS markets more—but they are either unable to place deals because of a lack of suitable models or they would like to complete bigger placements but cannot do so because of investors’ uncertainty over the risk.
These revelations will be of great interest to the ILS community in Bermuda as they clearly illustrate some of the barriers to growth that still exist in this market—and what needs to happen for these to be overcome.
Limiting the options
Marco Sordoni, head of reinsurance buying for Italian insurer UnipolSai Assicurazioni, has stated that he would like to tap the ILS markets more—but a lack of models relating to certain key perils in large parts of Europe prevents him doing so.
Speaking to sister publication Intelligent Insurer, he said this is holding back the development of the ILS market in the continent—and thus restricting his risk transfer options by preventing cedants generally accessing ILS sources of capacity.
He believes such models would be enthusiastically received by insurers in the region keen to access a new form of capacity.
“There is a model for earthquake in Italy but not for flood or wind. That means my options are limited. I don’t understand why the modelling companies are not developing models covering more perils in the region—not just in Italy but in many European countries.
“ILS investors want to expand their remit, but they are reluctant to take on risk without such a model in place,” he says.
UnipolSai has experienced this first-hand. It has tapped the ILS markets to complement its traditional reinsurance programme on two occasions. It was the first issuer to secure coverage for Italian earthquake risk using ILS, via the Ä200 million Azzurro Re three-year bond issued in 2015, which was well received by investors.
It then completed a smaller Ä45 million bond in February 2019 covering atmospheric perils including snow pressure and flood in Italy. That deal was innovative in that it succeeded in moving these “unmodelled” risks into the capital markets using a bespoke model developed by Willis Towers Watson.
But ILS investors had reservations. The deal was halved in size from its original offering and only the more remote risk issued as an ILS; the riskier part of the deal was instead placed with reinsurers.
“Traditional reinsurers will work from historical data and form an opinion on a risk; ILS investors will not,” Sordoni says.
“They are very reluctant to go in that direction and when you consider how some were hit by what was previously considered a marginal risk—wildfires—you can see why. But that is why the risk modelling companies have work to do in Europe.”
Sordoni has not ruled out doing a third ILS deal this year to complement UnipolSai’s traditional placement on the pure cat side, but he says it is too soon to determine that. The decision will depend on a combination of reinsurers’ and ILS investors’ appetite in this renewal, and the dynamics around potential rate increases.
An unusual risk
Julian Enoizi, the chief executive of Pool Re, the UK’s state-backed terrorism reinsurer, has a slightly different problem—but for a similar reason. He would like to buy more coverage, but such is the nature of the risk he wants to transfer, he cannot.
Enoizi wants to increase the number of reinsurers willing to participate on its retrocessional placements—and the number of investors willing to support its ILS programme—as Pool Re cannot buy as much capacity as it would like.
He says that since it launched its first retrocessional reinsurance programme some four years ago, Pool Re has been on a process of educating the market about the risk. While it now works with around 50 reinsurers, it would still like to buy more protection than is available.
“We have increased the capacity on the programme every year since we launched it four years ago, but it remains a continual education process where we must explain to people what the perils involve and how the risk models have evolved over time,” Enoizi says.
“It is still viewed as a difficult peril. We are buying 100 percent of the capacity available every year and we would like to buy more.”
Pool Re bought £-2.3 billion of capacity in its last renewal, in March, an increase of £-500 million from the £-1.8 billion it bought when the programme was launched in 2015. Enoizi says he would like to increase it by another £-100 million.
The placement, led by Munich Re, included a £-75 million slice placed with ILS investors. The deal was the first ILS covering terrorism risk exclusively. Baltic PCC was just the second ILS to be issued under the UK’s new regulatory system for ILS. The bond provides £-75 million of retrocession protection in excess of Pool Re members’ net loss of £-500 million.
The deal sits as part of its wider £-2.3 billion retro programme.
Enoizi says the bond was three years in gestation and he is delighted that the deal has succeeded in bringing a new source of capital to the UK terrorism market in the form of ILS investors from the capital markets—as opposed to the ILS arms of re/insurers. He would like more ILS investors to become comfortable with the risk.
“This was a completely different process from placing a traditional reinsurance deal—the way it needed to be modelled was completely different as investors in that space view risk very differently,” he explains.
“It diversifies the funding of our retrocession programme, complementing the capital of traditional reinsurers to spread terrorism risk even more broadly.”
Pool Re placed a second retrocession programme earlier this year covering non-damage business interruption (NDBI) losses. The programme, which incepted on July 5, allows Pool Re to cover losses incurred if a business cannot trade or is prevented from accessing its premises in the wake of a terrorist attack that does not involve physical damage.
The cover, led by Liberty Specialty Markets, protects Pool Re with a limit of £-40 million and sits excess of both a £-15 million placement attachment and separately, the member retentions.
The placement was made possible by the development of in-house NDBI modelling capability.
Enoizi is very pleased that 15 reinsurers participated on this placement despite its being a first of its kind but, as on Pool Re’s ILS programme and other placements, this is a placement he would like to grow in the future.
“We need to grow the market at both ends—in terms of penetration so that more small businesses are buying this form of coverage and also in terms of the number of reinsurers comfortable taking it on,” he says.
UnipolSai Assicurazioni, Pool Re, insurance-linked securities, ILS, Marco Sordoni, Julian Enoizi, Global