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Alternative Capital for Insurers and Reinsurers and the Current State Of 10/03/2016 Alternative Sources of Capital Daniela Collis and Sie Liang Lau SCOR Global P&C Asia Pacific Asia Conference 3rd – 4th March 2016, Kuala Lumpur Friday, 4 March 2016 Alternative Sources of Capital 1 Introduction 2 The reinsurance universe and the influx of alternative capital 3 Catastrophe bonds bonds 4 Sidecars 5 Development in Asia Pacific 6 Impact on the reinsurance market 7 Conclusion Friday, 4 March 2016 2 1 10/03/2016 Alternative Sources of Capital 1 Introduction 2 The reinsurance universe and the influx of alternative capital 3 Catastrophe bonds 4 Sidecars 5 Development in Asia Pacific 6 Impact on the reinsurance market 7 Conclusion Friday, 4 March 2016 3 Colour palette for PowerPoint presentations Primary colour palette Dark blue R17 G52 B88 Introduction: Why reinsurance? Gold R217 G171 B22 Reinsurance (or retrocession) is an effective way of optimising capital relief and forms part of Mid blue R64 G150 B184 (re)insurer’s strategy Light grey R220 G221 B217 The key reasons to buy reinsurance (or retrocession) are: Secondary colour palette Dark grey R63 G69 B72 • to satisfy Regulator Pea green (such as C-ROSS), Capital efficiency (as an R121 G163 B42 and 1 alternative to capital) Forest green • to expand efficiently Cost R0 G132 B82 Bottle green R17 G179 B162 • smooth peaks and Profitability and Cyan volatility, and Profitability portfolio management R0 G156 B200 2 • control portfolio and Capital Light blue Portfolio R124 G179 B225 Efficiencies Cost efficiencies/ Manageme Violet 3 Arbitrage nt R128 G118 B207 Purple R143 G70 B147 Market intelligence/ Market Fuscia 4 R233 G69 B140 reinsurer’s expertise Intelligence Red R200 G30 B69 Orange Friday, 4 March 2016 4 R238 G116 29 2 10/03/2016 Colour palette for PowerPoint presentations Primary colour palette Dark blue Introduction: R17 G52 B88 Gold R217 G171 B22 What is a typical insurer or reinsurer’s Mid blue R64 G150 B184 approach to reinsurance/retrocession? Light grey R220 G221 B217 Typically one would buy protection… Secondary colour palette Dark grey R63 G69 B72 in many different types such as: …across many different classes: Pea green Traditional cat and risk XL Property R121 G163 B42 Aggregate XL Facultative Forest green R0 G132 B82 Quota share Engineering Bottle green R17 G179 B162 Catastrophe bonds Marine Cyan Parametric deals such as CWIL (county Motor R0 G156 B200 weighted indexed loss) Decennial Light blue Contingent capital R124 G179 B225 Aviation and Space Violet R128 G118 B207 Purple R143 G70 B147 Fuscia The aim is to diversify its dependence in any one market and its panel of partners is diversified R233 G69 B140 for this reason Red R200 G30 B69 Orange Friday, 4 March 2016 5 R238 G116 29 Colour palette for PowerPoint presentations Primary colour palette Introduction: What has been happening Dark blue R17 G52 B88 these last few years? Gold R217 G171 B22 Interest rates close to historic lows, pressure Bilateral education between reinsurance and Mid blue on investors capital market, increasing convergence R64 G150 B184 Long-term (10-year) govt bond yield in advanced markets (1) New technology improves management of capital Light grey and reduces asymmetry of information R220 G221 B217 Secondary colour palette Dark grey R63 G69 B72 Pea green R121 G163 B42 Forest green Big Data & Satellite loss Cat R0 G132 B82 High assessment modelling granularity Bottle green R17 G179 B162 Cyan R0 G156 B200 Alternative capital has been growing rapidly ILS outstanding capacity (in USD billions) (2) Light blue Alternative capital: approx. USD 68bn of R124 G179 B225 capacity, while 10 years ago it was < Violet USD 10bn R128 G118 B207 Purple But capacity ≠ premiums. Cat bonds R143 G70 B147 often correspond to high layers with low Fuscia rates on line (typically less than 10%) R233 G69 B140 Red R200 G30 B69 Orange Friday, 4 March 2016 1) Sources: Bloomberg; Global Financial Analysis; 6 R238 G116 29 2) Sources: Aon Securities Inc 3 10/03/2016 Alternative Sources of Capital 1 Introduction 2 The reinsurance universe and the influx of alternative capital 3 Catastrophe bonds bonds 4 Sidecars 5 Development in Asia Pacific 6 Impact on the reinsurance market 7 Conclusion Friday, 4 March 2016 7 Colour palette for PowerPoint presentations Primary colour palette Dark blue R17 G52 B88 The reinsurance universe: Status Quo Gold R217 G171 B22 Global non-life reinsurance premium in 2013 Global Reinsurance Premium: USD 190 bn Mid blue 2013 is about USD 190 bn, with about 10% R64 G150 B184 coming from catastrophe reinsurance (of Other, 4% Casualty XL, Light grey which about 50% emanating from the US) Property R220 G221 B217 9% Proportional, But the 10% does generate a large 44% Secondary colour palette part of the profit and over time it does Dark grey R63 G69 B72 drive earnings Casualty, 23% Pea green R121 G163 B42 Property XL, Forest green 20% R0 G132 B82 Bottle green Global Catastrophe reinsurance capacity is 2013 Global Catastrophe Capacity: USD 312 bn R17 G179 B162 about USD 312 bn as at end of 2013 Cyan R0 G156 B200 Alternative capacity is estimated to be around USD 45 bn at the same time, Light blue R124 G179 B225 which is about 15% of total Cat Capacity. Violet R128 G118 B207 Growth in the alternative capital Purple markets space likely to be USD 75 bn R143 G70 B147 by 2016. Expectations are that this Fuscia capacity will only plateau at around R233 G69 B140 USD 100 bn. Red R200 G30 B69 Orange Friday, 4 March 2016 8 R238 G116 29 4 10/03/2016 Colour palette for PowerPoint presentations Primary colour palette The inflow of alternative capital: Dark blue R17 G52 B88 Rapid growth of catastrophe bonds, in particular for US perils Gold R217 G171 B22 Cat Bonds have been growing quickly, and majority covering US perils Mid blue R64 G150 B184 Outstanding capacity (in $ billions) (1) Light grey US perils form the majority of the R220 G221 B217 covering Secondary colour palette The demand of JP wind and Dark grey earthquake bonds has increased R63 G69 B72 significantly after the 2011 March Pea green R121 G163 B42 Tohoku EQ Forest green R0 G132 B82 Bottle green Cat bonds have a compelling track record for Growth has been fuelled by low interest rate R17 G179 B162 investors environment Cyan Cat bond returns vs. other asset classes (2) Cat bond spreads vs. risk-free rates (3) R0 G156 B200 1400 US Light blue Wind 1200 New R124 G179 B225 Issue 1000 Spread Violet s 800 R128 G118 B207 600 US 2Y Purple Govt R143 G70 B147 400 Note Fuscia 200 R233 G69 B140 0 Mar-01 Mar-04 Mar-07 Mar-10 Mar-13 Red R200 G30 B69 Orange Friday, 4 March 2016 1) Source: Aon Benfield 9 R238 G116 29 2) GC Analytic, Bloomberg 3) Source: Swiss Re capital Markets & Bloomberg. Spreads for US Wind new-issue cat bonds with 2% expected loss Colour palette for PowerPoint presentations Primary colour palette The reinsurance universe and the inflow of Dark blue R17 G52 B88 Gold alternative capital R217 G171 B22 Different forms of Alternative Capital Mid blue R64 G150 B184 The reinsurance universe encompasses long term partners (the traditional reinsurers), as well as the Light grey shorter term partners in many forms such as collateralized reinsurers, Cat bond investors, permanent R220 G221 B217 sidecars, special vehicles for asset managers and periodic partners (the opportunistic sidecars which Secondary colour palette have recently re-emerged) Dark grey R63 G69 B72 Pea green R121 G163 B42 Forest green R0 G132 B82 Bottle green R17 G179 B162 Cyan R0 G156 B200 Light blue R124 G179 B225 Violet R128 G118 B207 Purple R143 G70 B147 Fuscia R233 G69 B140 Red R200 G30 B69 Orange Friday, 4 March 2016 10 R238 G116 29 5 10/03/2016 Alternative Sources of Capital 1 Introduction 2 The reinsurance universe and the influx of alternative capital 3 Catastrophe bonds 4 Sidecars 5 Development in Asia Pacific 6 Impact on the reinsurance market 7 Conclusion Friday, 4 March 2016 11 Colour palette for PowerPoint presentations Primary colour palette Dark blue What is catastrophe bond? R17 G52 B88 Gold R217 G171 B22 Catastrophe Bonds date back to the early 1990s following Hurricane Andrew and the Northridge Mid blue earthquake in Los Angeles and were developed to alleviate the extreme tail risk posed by a R64 G150 B184 major event. Light grey R220 G221 B217 Secondary colour palette Dark grey How it works Why it has become more popular R63 G69 B72 It is an insurance related debt-securities issued by Independent correlation to financial markets so Pea green an insurer or reinsurer (Sponsor) and are set up they provide excellent diversification R121 G163 B42 using special purpose vehicles (SPVs), which are Forest green typically rated by the rating agencies They allow access to reinsurance market R0 G132 B82 Multi-year coverage, mainly peaks but can cover Generally pitched ‘out-of-the-money’ say 1% Bottle green R17 G179 B162 non-peak spots. 99.9% catastrophe, tiny single risk expected loss (1:100 year return period), thus coverage (such as mortgage insurance risks, lottery offering cover with high capital intensive nature Cyan winning risk) R0 G156 B200 The coupon rate is attractive in a low-interest Light blue Loss probabilities are normally modelled by RMS’ environment. R124 G179 B225 RiskLink, EQECAT or AIR’s CATRADER Violet Investor proceeds invested in high-quality, liquid R128 G118 B207 The premise of a catastrophe bond is that if a pre- securities (such as Money Market Funds), held in determined type of event occurs, the bond defaults trust and which is available to the sponsor in the Purple R143 G70 B147 and investor
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