26 November 2013News

Bundled risk and convergence capital changing market

Cedants are increasingly retaining and bundling their risks, requiring reinsurers to change their approach to underwriting.

That is the view of Paula Jarzabkowski, professor of strategic management at Cass Business School, City University London who spoke with Bermuda:Re about some of the key lessons to have emerged from the institution’s recent round of Global Re/insurance Masterclasses, which draw on three years of independent research.

“Insurers are increasingly bundling their homogenous risks as an efficient means to buy cover. Rather than being line, market or peril-specific, insurers are increasingly buying bundled products like a European wind book of coverage or even a global per risk treaty”, said Jarzabkowski. She added that such an approach was a particularly good fit for the cat space where uncorrelated, and homogenous risks can be brought into one cover.

Bundling risk will inevitably bring about a change in underwriting behaviour. One of the most obvious changes will be among the underwriting teams now involved in pricing bundled products. As Jarzabkowski explained, “these bundled risks will require reinsurers to re-examine how they deploy their underwriting staff to appraise those risks; and how they are going to diversify their capital across a range of territories and exposures.”

Reinsurers are meanwhile facing rising levels of retentions among insurers looking to maximise the capital efficiency of their own portfolios. “The biggest global cedants are vastly more diversified than the people reinsuring them, therefore the capital efficiency that they can get from their own portfolio is rather more than that a reinsurer can get from buying multiple reinsurance risks”. Reinsurers face brisk headwinds as a result.

Convergence dynamics

Addressing rising levels of convergence capital, Jarzabkowski is agnostic, arguing that “if it’s good quality capital and its going to do the job, why wouldn’t insurers want to buy it?” She agreed that it would not be a like-for-like substitution for traditional reinsurance, but said that convergence capital can play a valuable role in filling out parts of a cedants' programme, adding that “the percentage will likely grow as people understand better how the product works”.

She said that there remained “a lot of emotion” around convergence capital and the impact that it is having on the market, admitting that a real test of their staying power and value is still needed. She explained that some “greyness” remains, but that the industry is well-placed to clarify terms.

However, she was adamant that convergence capital can bring real value “to the industry, to insurers and socially, underpinning a commitment to pay”. Asked whether she saw any potential conflict of interest among reinsurers with third party capital managers sitting alongside the parent, Jarzabkowski said that “while not as separate as perhaps we want to see them, it is great that they are fronted by high-quality underwriting expertise. After all, it is better that capital is channelled into the market by someone who understands it”.

She did however caution that “the bandwagon is not big enough for everyone”, arguing that rising levels of convergence capital will test the mettle of all participants.

Broker involvement in the convergence space is also likely to deepen. As Jarzabkowski outlined, “capital is coming into the market in more diverse ways. Brokers understand that it is about channelling that capital effectively and whereas in the past their role very much revolved around advocacy, their position is increasingly about managing that flow of capital”.

Knowledge is power

Jarzabkowski said her three-year research project into developments in the industry has involved “talking with people at the forefront of change” and led to invaluable insights into its course and heading. She said that the project had highlighted gaps in knowledge within the industry and helped to emphasise the continued value of education.

Cass’s Global Reinsurance Masterclasses, which have been partially sponsored by the Worshipful Company of Insurers, are available online for free. They can be found at: