ILS can be a $1trn market - if it embraces cyber risk: AkinovA CEO
The ILS market can grow tenfold by embracing standardisation and developing new products, particularly ones that offer cyber exposure, according to Henri Winand, CEO of AkinovA, the electronic marketplace for trading re/insurance risk.
“The ILS market is around $100 billion, but it should be $1 trillion,” said Winand. “For that to happen, ILS needs to be a market that big money managers cannot ignore. It also needs a higher level of standardisation where it makes sense and it needs to be electronically traded. That enables ILS investors to trade the collateral and unlock more capital velocity.”
Cyber will be a catalyst for growth in the ILS market, Winand predicted. “It has changed the game and is definitely an interesting area to investors such as pension funds and hedge funds. They increasingly realise that they are the ultimate owners of that cyber risk, with no real ways to hedge it with access to underlying cashflows. ILS offers that.”
Some funds also see cyber as a new source of alpha for them, to gain an edge on other investors, he added.
AkinovA, which is licensed to operate within Bermuda's regulatory sandbox, has launched two first-of-their-kind parametric securities designed to transfer cyber risk in recent months. The first was the first ever cyber product to incorporate a parametric trigger, in a trade executed in December. This was followed up with a more niche product designed to transfer the risk of a cloud service provider outage.
Winand believes both parametric triggers, and cyber ILS more generally, are potential game changers, in terms of broadening the appeal of ILS and helping it grow. Parametric cyber ILS, done electronically, offers a way to grow the whole ILS ecosystem, including cedants, brokers, capacity providers, risk modellers and numerous service providers, whilst serving end clients better with innovative products, explained Winand.
He said: “Parametric triggers are interesting for investors because they offer clarity. An event either happened or it didn’t. If there is any disagreement about whether an event happened or not there is an umpire who can rule on that. It means investors are less likely to experience trapped capital.”
Winand admitted ILS has been a disappointment for many investors in recent years. “The promise with ILS was that it was uncorrelated with other asset classes in the broader capital markets, which is true to a point, but there comes a point when it does start to correlate when major cat events hit,” he said. “Investors also found they could not exit their ILS positions, even with a haircut.”
Winand added that investors have been frustrated by the shortcomings of models used by ILS, which have proven to be less accurate than expected. He noted that the risk modelling companies are working very hard to fix that problem, but argued modelling issues shouldnt prevent investors putting capital to work. Instead, investors should supplement models with easy-to-use indices, just as happens in other markets such as commodities, currencies and credit, he said.
“Which global macro commodity, GDP or FX model is truly accurate for any duration?” asked Winand. “None. But the combination of indices, models and electronic venues is very powerful to unlock market depth.”
Winand acknowledged the concern that basis risk is more difficult to manage with indices, but said: “That doesn’t need to be the case if indices correlate to the underlying risks.”
While the ILS market will evolve to embrace increasingly sophisticated structures, Winand predicted more traditional structures will continue to have their place.
“The existing ILS structure will continue to attract certain investors, such as large ILS funds,” said Winand. “They can allocate a small percentage of the fund but because of their size that will still be a large allocation in any ILS deal. But many other institutional investors are looking for a more sophisticated product which then can work from, using parametric triggers for instance.”
Increasing standardisation will also generate more interest among capital markets investors, he said. “It means whether you are a broker, a buyer or a seller of ILS, you have the same understanding of the risk. Even more complex risks can be packaged as ILS when the product is standardised.”
