September 2014 Bermuda:Re/insurance+ILS 49
“Having the ability to buy in at a low level with a quick time to market will always be appealing to a portion of the investment market.”
Casualty risk
There has been a buzz of convergence interest in the casualty and specialty space, but few transactions have yet materialised. As Rooney explained, there is potential to develop longer tail transactions, but there are considerable challenges associated with efficiently transferring that risk.
“Capital market investors tend to like to have a finite end to their reinsurance investments. The challenge is commuting that risk in order to create finality in a longer-tail structure,” he said. Modelling long-term risks is one of the challenges, as is the structuring of such transactions, although he suggested that it was inevitable that the market would explore and create solutions to longer tail risks.
Ludolphs was more bearish about the prospects for casualty risk. “I’m not optimistic,” he said, adding that the timeframes involved would likely make investors wary. “Investors would have to keep a bond until it could be reasonably established whether there is a loss or not, and this wait will serve to dilute the return—you could be earning the same money, for the same risk, but for more years. In such instances there would simply not be enough premium to pay sufficient coupon.”
Ludolphs added that there is potential for other risks to make their
way into the convergence market, but that the crucial difference with risks such as terror and cyber is that they are relatively short-tail.
improved terms and conditions in the traditional reinsurance space. As David Gibbons, director for assurance at PwC Bermuda explained, “With the abundance of capital in the market and from so many different sources, having the ability to buy in at a low level with a quick time to market will always be appealing to a portion of the investment market.”
Gibbons did however signal a note of caution regarding the durability of the cat bond lite segment of the market. “The question is, will this be the first part of the market to go in the case of a large loss event, or is this an aspect of diversification of capital that will reduce potential exposures and increase the likelihood of the return of capital if an event occurs?”
It depends on the kind of investors who pursue such transactions. For those with little available capital there is likely to be a temptation to withdraw following a loss event, but for large-scale investors greater diversification should help to deliver greater stability for the market, said Gibbons.
Fronting
Fronting services have the potential to further simplify the market for investors keen to enter the space. As Gibbons explained, “Fronting services provide the market with an easy way of matching risk to capital.” Capabilities will help to standardise contracts and wording, simplifying entry for an increasingly diverse set of investors, he said. Gibbons added that the volume of transactions and investor interest suggests that there is likely to be still greater appetite for fronting services, but said that investors would have to consider the costs associated with using such services in light of the returns they can expect from convergence investments.
Hannover Re is one market offering fronting services for collateralised reinsurance, with the company “exploring concepts appropriate to meet different investors’ needs”, said Ludolphs. By offering a range of risk transfer opportunities, the company hopes to drive still greater interest among ILS investors keen to take on more reinsurance risk.
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