Risk Markets Flashcards
Define a risk
An uncertain event or condition, which if occurs, would impact on the achievement of an objective. We are concerned with risks that have a possibility of loss exposure (an uncertain event leading to a possible loss.)
Define risk transfer
is passing risk onto to professional counterpartiesD
Define retrocession
is the reinsuring of a risk by a reinsurer.
Define a peril and give different types
Peril is the underlying cause of the loss – the risk event.
Natural Perils
Human Perils
Economic Perils
Define hazard
Hazard is a condition that increases the frequency or severity of a loss. Ex: smoking is a mortality hazard
What is a viatical settlement
Allows you to invest in another person’s life insurance policy. With a viatical settlement, you purchase the policy (or part of it) at a price that is less than the death benefit of the policy. When the seller dies, you collect the death benefit.
How does efficiency relate to risk transfer
The market is said to be risk efficient if there is a good market for risk transfer ie. many companies, good capacity, reasonable transparency on prices etc
What does reinsurance do to risks and what do reinsurers offer
Insurance/reinsurance replaces event risk (and liquidity risk) with (the much smaller) event-counterparty risk combination
Reinsurer is the insurance company that insurer (‘direct writer’)
uses- have very specialist expertise
Reinsurance premium is more than the expected value of the claim
Must assess total value of services by reinsurers as well as pure risk mitigation
Reinsurers you expect to lose money but purpose is to try reduce tail risk of lots of things in aggregate going wrong together
What risks are reinsurers exposed to
Reinsurers can be exposed to a lot of counterparty risk. Ex: Hurricane risk - Reinsurer may go bust and can’t pay the insurer who had them reinsuring them.
To transfer risks you need to know there’s no information asymmetry. Otherwise reinsurer may not know how much risk they take on.
Why are reinsurers used?
Balance sheet protection to protect the solvency of the company.
Stabilise profit stream and selling volatility
To increase capacity
Achieve a more balanced mix of business (reciprocity)
Gain experience in new markets/new products
Cash flow assistance
For arbitrage
Explain why reinsurance can help achieve a more balanced mix of business - reciprocity idea
Reciprocal insurance exchanges are a form of insurance organisation in which individuals and businesses exchange insurance contracts and spread the risks associated with those contracts among themselves.
What do reinsurance contracts look like?
Can be contracts for differences, meaning you settle up at the end
Contracts are often tailored to meet the particular needs of the ceding company
Coinsurance contracts may be in place
Risks can be ceded on a facultative basis or under a treaty arrangement
What is coinsurance
Coinsurance is reinsuring a risk with several reinsurers. (don’t want credit risk to one particular company for big amounts)
What is meant by faculative or treaty arrangement and what are the consequences of these
Risks can be ceded on a facultative basis (each risk on an individual basis) or under a treaty arrangement (a blanket arrangement across an entire class of business.)
Treaty contracts; only negotiated once and then in place. Generally personal lines
Facultative means every risk has to be approved.
What is meant by proportional reinsurance and name two types
Reinsurer covers an agreed proportion of each risk: may be constant or may vary by risk covered
Does not cap the cost to the insurer of very large claims
Ex: quota share or surplus reinsurance
Explain quota share reinsurance
Fixed % of every risk is reinsured. Often used to spread risk, write larger portfolios of risk and encourage reciprocal business. Reinsurer pays half claims and gets half the premium for example (plus reinsurance premium)
