C24 Reinsurance 1 Flashcards
Four ways of reducing risk of Insolvency
H RUPI
1. Holding adequate reserves
2. Putting in place suitable re-insurance arrangements
3. Putting in place suitable underwriting process.
4. Adopting an appropriate investment strategy
5. Using an appropriate profit distribution strategy
Three main reasons for reinsuring business
ENT
1. Reduce risk from adverse claim experience.
2. Reduce financial strain of writing new business.
3. Benefit from technical assistance.
Define reinsurance
Reinsurance
An arrangement whereby one party (reinsurer) …
… in return for a premium …
… agrees to indemnify another party (cedant) …
… against part or all of the liability assumed by cedant under one or more insurance policies, or under one or more reinsurance contracts.
It’s a means of transferring part or all of the risk under a policy.
List the five main types of reinsurance contract.
Five main types of reinsurance contract (OREFF)
- Original terms (coinsurance)
- Risk premium
- Excess of loss, eg:
– catastrophe
– stop loss - Financial
- Facultative and obligatory
Some of these types overlap.
Explain how original terms reinsurance (coinsurance) operates.
Original terms reinsurance (coinsurance)
Involves sharing all aspects of original contract.
So, premiums and claims are split between insurer and reinsurer in fixed proportions, and reinsurer shares in full risks of policy, including investment and early lapse.
Cedant provides reinsurer with premium (retail) rates it’s using for reinsured business, so reinsurer can check their adequacy.
Reinsurer determines the rates of reinsurance commission it’s prepared to pay to cedant for the business.
In determining the reinsurance commission, the reinsurer will consider the likely future experience and the quality of underwriting. It will also want to make a profit on the business.
State the two ways in which the amount to be reinsured can be specified.
Two ways in which amount to be reinsured can be specified
- Individual surplus – reinsured amount is excess of original benefit over cedant’s retention limit on any individual life.
- Quota share – specified percentage of each policy is reinsured.
Cedant is likely to adopt mixture of above, retaining for itself a percentage of each policy up to a maximum retention.
Explain how risk premium reinsurance operates.
Risk premium reinsurance
Cedant reinsures part of sum assured or sum at risk (excess of sum assured payable over reserve) on the reinsurer’s risk premium basis, which can be annually renewable or guaranteed.
Reinsurer determines its risk premium rates by assessing likely experience of the business it is to reinsure, and then adding expense and profit margins. It may or may not guarantee these rates for term of policy.
Risk premium may be level over the term of the policy or may vary annually with the probability of claim.
Part to be reinsured can be on individual surplus basis or quota share basis.
- Changes in the insurer’s premium rates will not necessarily require changes in the reinsurance rates.
- It therefore gives the insurer greater freedom to respond to competitor changes in the premium rates.
- Net level premium can act as a loading for the insurer.
State the two bases on which excess of loss reinsurance can be enacted.
Excess of loss reinsurance can be enacted on:
- Risk basis – where reinsurer pays any loss on an individual risk in excess of predetermined retention.
- Occurrence basis – where aggregate loss from any one occurrence of event exceeds predetermined retention.
Occurrence basis is more common in life reinsurance.
Explain how an excess of loss treaty may be organised into different levels, or
lines.
Excess of loss treaty
Excess of loss treaty may be organised into different levels, or lines.
Cedant may retain first £Xm of losses.
First £Ym over £Xm will have one price.
Next £Zm over £(X+Y)m will have different price, and so on.
Different reinsurers may then take different proportions of each line.
Within lines, reinsurer may also pay only a percentage of loss actually incurred.
Explain how catastrophe reinsurance works.
Catastrophe reinsurance
Aims to reduce potential loss to cedant due to any non-independence of risks insured.
Usually only available on yearly basis – must be renegotiated each year.
Reinsurer agrees to pay out if ‘catastrophe’, as defined in reinsurance
contract, occurs.
There is no standard definition of catastrophe. Typically, to qualify there needs to be minimum number of deaths (say 5) from single incident, with deaths occurring within specified time (say 48 hours).
Describe the cover typically provided by a catastrophe reinsurance contract.
Cover under catastrophe reinsurance
Contract specifies how much reinsurer will pay if catastrophe occurs.
Typically this might be excess of total claim amount, net of any amounts already reinsured, over cedant’s catastrophe retention limit.
Reinsurer’s liability in respect of single catastrophe claim subject to maximum amount, and any amount above this would revert to cedant.
There is also usually maximum amount of cover per life.
Cover usually excludes war risks, epidemics and nuclear risks. However, separate catastrophe covers may be available for excluded risks.
Outline how stop loss reinsurance operates.
Stop-loss reinsurance
Reinsurer pays aggregate net loss over predetermined retention for portfolio over given period, usually a year. So, cedant’s loss on portfolio in any such period is capped.
As with catastrophe reinsurance, reinsurer’s liability is limited to specified maximum amount, and reinsurance needs to be renegotiated annually.
Explain the main purpose of financial reinsurance, and state the level of insurance risk that is normally transferred under such arrangements.
Financial reinsurance
Primarily devised to improve the accounting or supervisory solvency position of the insurer.
Usually only involves a small element, if any, of transfer of insurance risk from the cedant to the insurer.
Explain how risk premium reinsurance can be used to facilitate a financing agreement between insurer and reinsurer.
Use of risk premium reinsurance to provide financing
A ‘loan’ is presented to the insurer in the form of initial reinsurance commission (related to the volume of business reinsured), as part of the risk premium reinsurance agreement.
The ‘repayments’ are spread over several years, and are added to the reinsurance premiums.
The reinsurer takes into account the expected future lapse experience of the insurer when determining the repayments.
The loan is effectively repaid by the insurer from its future premium receipts. It does not have to set up any additional liability for the repayments, as they are only payable for as long as the policy remains in force.
So the assets increase by the amount of reinsurance commissions, the liabilities are unaffected, and therefore the net assets of the insurer will increase.
Explain how financial reinsurance can make use of the future profits contained in a block of an insurer’s new or existing business.
Using future profits for financial reinsurance
Reinsurer provides a loan to insurer, repaid out of the future supervisory profits earned on a specified block of new or existing insurance business.
As the loan is paid out of future profits, the insurer may not need to set up a specific reserve for the repayments.
The assets increase by the amount of the loan, the liabilities are unaffected, and so the net assets of the insurer will increase.
