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“AN INNOVATIVE SOLUTION THAT ACHIEVES SECURITY AND REDUCES COSTS IS AVAILABLE VIA THE REINSURANCE TRUST.”


A reinsurance trust can complement a cedant’s risk management


by reducing the credit and counterparty risks associated with LoCs. Trusts can also encourage carrier competitiveness among clients looking for flexible options. Finally, consolidated reporting can also help to streamline the back-office LoC tracking functions and enhance data management or increase transparency.


Reinsurance trusts have for many years been used to satisfy US regulatory requirements which impose collateral, such as New York Regulation 114 or National Association of Insurance Commissioners (NAIC) surplus lines requirements. However, due to the globalisation of business and industry, requirements for collateral today often cross borders. This has led to the emergence of reinsurance trusts in the international arena, such as the European reinsurance trust.


In a European context, reinsurance trusts can satisfy a host of


client scenarios such as to reduce counterparty risk where the captive has insufficient credit quality, or is outside the scope of the fronting carrier’s national regulator. Operating in a similar manner to the Regulation 114 trusts, the European reinsurance trust is typically governed by documentation recognised in the jurisdiction of the trust provider or trustee. In many ways, a European reinsurance trust can be more flexible than a Regulation 114 trust, and can be customised to individual business needs. Eligible asset criteria or other considerations are, for example, wholly determined by the parties involved rather than dictated by set regulatory expectations.


Further change and challenges are inevitable in Europe, Solvency


II chief among them. Innovative solutions that can help participants overcome—or at the very least to lessen the burden of—these challenges are key. One of the proposed requirements of Solvency II will deal with assets being ring-fenced from counterparty and custodian default. While the requirements have yet to be finalised, reinsurance trusts for the European market are intended to comply with these requirements and help insurers and reinsurers take advantage of the risk mitigation techniques allowed under the directive. A European reinsurance trust designed specifically for use in the European markets will give re/insurers the ability to manage assets according to their investment strategy and the flexibility either to direct the income generated out of the trust, or to keep it within the structure to ‘shore up’ the overall valuation of the collateral held.


40 emea captive 2012


In addition, recent interpretations of the directive by industry


participants claim that captives may be able to lower their overall capital costs under Solvency II by obtaining a credit rating. It is believed a rating may lower the counterparty risk capital requirements typically levied on the fronting carrier, who in turn would reduce the overall capital requirements imposed on a structure. However, to be eligible for rating consideration, a captive may need to demonstrate robust risk management and governance, perhaps even requiring additional capital injections. It is expected that many captives may be unable, or unwilling, to seek a credit rating and may ultimately look to re-domicile to a non-Solvency II jurisdiction from where they can write EU-based business through a fronting entity. Collateral may therefore continue to be at the forefront of captives’ concerns. Collateral in the form of a reinsurance trust is an efficient means to approach such issues, when compared with the traditional LoC.


Whether replacing a LoC entirely or in part, a reinsurance trust can provide a cheaper and more flexible form of security. In this climate, a company that can demonstrate to its parent that it can significantly reduce and manage its costs may make all the difference. Lower collateral costs may also determine whether an insurance transaction can even close. A reinsurance trust can therefore complement a cedant’s risk management strategy by reducing the credit and counterparty risks associated with LoCs.


Where risks have a global dimension and economic areas affect each


other, there is a high likelihood that collateral issues will continue to stalk the industry. A trust provider who can provide innovative collateral alternatives to meet multi-jurisdictional requirements, may help the industry not only to manage risks more efficiently but to optimise the potential for opportunities. While change may be challenging, innovative measures will help us to keep ahead.


The views expressed herein are those of the author and may not reflect the views of BNY Mellon.


Caroline Cruickshank is a managing director with BNY Mellon. She can be contacted at: caroline.cruickshank@bnymellon.com


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