Amid massive changes in risk management over the past few years, there is an increased focus on alternative risk transfer (ART) methods. Aside from the insurance and risk management mainstays, cash-rich institutions such as hedge funds have ramped up investment in ART, an expert observed.
Marc Paasch (pictured), global head of alternative risk transfer solutions and strategic risk consulting at Willis Towers Watson, spoke with Corporate Risk and Insurance regarding the influx of capital funding from sources outside insurance companies.
Paasch said that one of the attractive features of ART is that if the premium of a traditional insurance solution goes up, the ART solution’s cost remains the same.
“We’re seeing a stronger demand for ART-type solutions because of the hardening of the traditional market,” Paasch said. “For example, property rates went up from 5% to 25%, depending on the nat cat exposures. Auto liability rates are also largely up, and some insurers have left the auto liability market totally. In some other cases we see client’s risk managers who are being forced by large losses and by market pricing to revisit the full purchasing strategy of insurances.”
According to Paasch, this situation has led to clients re-analyzing their exposures and their approach to risks, and giving more consideration to captive insurance and ART.
“There’s a trend in the insurance and reinsurance market, where the big hedge funds are coming in and are trying to compete with traditional reinsurance capacity,” he said. ”This is definitely happening through insurance-linked securities (ILS), such as cat bonds. Even if there’s a drop this year in ILS structures, at around 3% to 4%, that’s still more than a hundred billion dollars available.”
Paasch explained that the investments are coming in because, for hedge funds and the like, ILS are de-correlated investments. Thus, investing part of the portfolio outside of market correlated activities, such as in insurance or nat cat risks, can allow the investors to increase the return of the portfolio on average by not taking any capital charge.
Paasch also observed that hedge funds’ involvements in ART is becoming more structured, and they are building dedicated teams to manage their reinsurance capacity and offer it to clients via brokers.
“Some of the large funds such as Citadel and Everest are starting to build teams who work with us and offer capacity in almost the same way as the large structured insurance companies such as Allianz, Swiss Re, and others,” he said. “That’s an interesting move because interest in ART will be higher as traditional premiums go up.”
Aside from ILS, Paasch also highlighted the importance of other ART areas, such as captives and parametric insurance.
“I think captives will play a big role in the next few years, especially in Asia, due to the premium hikes that are happening,” he said. “In a lot of cases, when the insurance market’s premiums go up, it’s cheaper to keep some of the risk on the corporate side, so a captive is a good vehicle to keep the risk instead of giving them to the market.”
Meanwhile, Paasch said that parametric insurance, which pays out if a specific parameter – such as wind speed in the case of typhoon insurance – is triggered, is a huge benefit to a company’s finances.
“The power of parametric is tremendous, due to the fact that a client can get a payment 30 days after a loss,” he said. “This is such a relief for a CFO of a company who, without the parametric solution, has to wait often three to five years to get the payment – which is more than the average tenure of a CFO in their job.
“Also, I think the power of parametric is not just about data, it’s in certainty and the quick payment, which is really a concern of a lot of our clients right now. We’ve seen growth in parametric across the globe, but we’re only just scratching the surface right now.”