Section 8 : Reinsurance Flashcards
(23 cards)
Contrast a treaty reinsurance arrangement with a facultative reinsurance arrangement.
Treaty reinsurance – any two of the following are acceptable:
* ceded LOBs are agreed in advance
* all business falling under contract is automatically insured
* involves ongoing relationship between primary insurer and reinsurer
* commonly used for a group of homogeneous risks
Facultative reinsurance – any two of the following are acceptable:
* non-obligatory
* individual underlying insurance contracts (risks) are ceded
* reinsurer underwrites each contract separately
* primary insurer chooses which contracts to submit reinsurer can accept or reject submissions
* commonly used for heterogeneous risks with large limits
What is the difference between proportional and non-proportional reinsurance?
Proportional: Premium and losses are shared between insurer and reinsurer in a fixed ratio (e.g., quota share).
Non-Proportional: Reinsurer covers losses only after a certain threshold (e.g., excess of loss).
Describe finite risk reinsurance
The insurer pays an amount to the reinsurer to cover expected claims. If claims
are less than expected, they receive a refund; if claims are more than expected the
insurer pays an additional amount to the reinsurer.
Explain why finite risk reinsurance has been controversial.
It can be seen as more of a loan than a transfer of risk.
Describe two different ways for an insurer to incorporate non-
proportional reinsurance in a ratemaking analysis.
- Conduct the ratemaking analysis net of reinsurance excluding ceded
premiums and ceded claims. - Conduct the ratemaking analysis on a gross of reinsurance basis and include
the net cost of reinsurance as an expense.
Describe three reasons why an insurer might purchase reinsurance
coverage.
Any three of the following are acceptable:
* Increase capacity by passing off risk the insurer is unable or unwilling to
retain
* Covers catastrophes that could threaten its earnings and threaten solvency
* Stabilize claims experience by limiting liability due to single claim / multiple
claims/ all claims over a period
* Pass on reinsurer technical services and expertise
* Facilitate withdrawal from a market segment by using portfolio insurance
Demonstrate how a reinsurance agreement with a 80% to 90% loss ratio corridor
would operate.
If the ceded loss ratio is less than 80%, all claims are ceded to the
reinsurer.
* If the ceded loss ratio is between 80% and 90%, claims up to 80% would
be ceded and claims in the layer excess of 80% would be retained by the
primary insurer.
* If the ceded loss ratio is greater than or equal to 90%, claims up to 80%
would be ceded, claims in the layer 10% excess of 80% would be retained
by the primary insurer, and claims excess 90% would be ceded to the
reinsurer
How does the treatment of ALAE differ between pro rata and excess of loss reinsurance?
In pro rata contracts, ALAE is typically shared proportionally with claims.
In excess of loss, ALAE may be:
Included within the reinsurance limit (e.g., property CAT),
Excluded from limits (paid in addition),
Or fully retained by the insurer, depending on contract.
Example:
A $1.2M claim includes $100K ALAE. Under a $1M xs $200K XoL contract:
If ALAE is included, reinsurer pays $1M total (claim + ALAE). If excluded, reinsurer pays $1M and insurer absorbs ALAE. If not covered, insurer pays all $100K ALAE.
How does a reinstatement provision affect catastrophe reinsurance pricing?
Reinstatement allows a reset of coverage after exhaustion — typically at an additional premium.
Example:
If a $50M CAT layer is used up in a July hailstorm, a reinstatement clause could allow the layer to reset once or twice, ensuring protection for future events.
Pricing must account for the expected number of reinstatements, especially in active CAT zones.
What are loss ratio caps and how do they affect pro rata reinsurance?
A loss ratio cap limits reinsurer liability if the ceded loss ratio exceeds a threshold, protecting reinsurers from excessive losses.
Example:
A quota share treaty with a 90% loss ratio cap means reinsurer will pay no more than 90% of ceded premiums in claims.
If ceded claims reach 120%, reinsurer pays only up to 90%; insurer retains the excess loss.
Why is indexation of attachment points important in reinsurance treaties?
Without indexation, inflation increases claim amounts, making it easier to breach attachment points over time, increasing reinsurer losses.
Example:
A $1M XoL attachment in 2015 may be breached by smaller claims in 2025 due to inflation, increasing frequency of recoveries. Pricing must reflect this drift.
In what scenario might a reinsurer insist on swing-rated premiums?
When the underlying risk experience is volatile or uncertain, the reinsurer may adjust premiums retrospectively based on actual loss experience.
Example:
A $2M XoL treaty starts with a base premium of $100K. If loss experience is better than expected, the final premium may drop to $85K; if worse, it may swing up to $120K.
How can annual aggregate deductibles distort historical loss cost trends in ratemaking?
They limit recoverable losses in a year, potentially reducing volatility in recent years and biasing trend estimates downward.
In what circumstances is facultative reinsurance preferred over treaty reinsurance?
For large, unusual, or high-risk policies not suited to predefined treaty terms—especially when underwriting judgment is required.
What ratemaking adjustments are necessary when including reinsurance costs in technical premium?
Reinsurance premiums must be allocated by coverage and layer, and expected recoveries should adjust gross loss costs.
Describe how reinsurance affects capital requirement calculations for a primary insurer.
Reinsurance reduces net retained losses, which lowers required capital under risk-based capital frameworks
Under what circumstances might an insurer choose surplus share over quota share?
When exposures vary widely and the insurer wants to retain more of the smaller risks while ceding larger ones.
How does a reinsurer evaluate credit risk when pricing a reinsurance treaty?
By assessing the ceding company’s underwriting practices, claims controls, and historical results.
What is stop loss reinsurance, and how does it operate in practice?
Stop loss (aka aggregate excess of loss) protects the insurer if total claims exceed a predefined percentage of premium over a period. It’s non-proportional and applies to the entire portfolio.
Example:
An insurer writes $100M premium and has a stop loss treaty with a 120% attachment point and a $20M limit.
Claims up to $120M (120% of $100M) are retained. Claims between $120M and $140M are ceded to the reinsurer. Claims above $140M are again the insurer’s responsibility.
This helps protect against adverse loss ratios from frequency or severity shocks
How does stop loss reinsurance affect pricing and profitability analysis?
It reduces tail risk and allows more predictable underwriting results, but the cost must be included in technical premium.
It’s especially useful in volatile or immature portfolios.
Example:
If the actuarial model shows possible tail risk above 125% loss ratio with 5% probability, stop loss may justify its premium to flatten earnings volatility or satisfy capital requirements.
What are the key differences between proportional and non-proportional reinsurance?
Feature | Proportional | Non-Proportional |
| ——————– | ————————– | ——————————————— |
| Premium & Claims | Shared from dollar one | Kicks in above attachment |
| Structure | Quota share, surplus share | Per risk, CAT XoL, stop loss |
| Reinsurer Risk | Steady share of all losses | Exposed to higher-severity tails |
| Actuarial Impact | Loss costs and LAE shared | Net loss costs must reflect attachment layers |
Give a pricing impact example contrasting quota share and excess of loss reinsurance.
Quota share: A 40% QS on a $10M portfolio means reinsurer takes 40% of every claim, large or small. Simple to model — just scale down gross loss cost and expenses proportionally.
Excess of loss: A $1M xs $500K XoL only triggers for large claims. Requires layered loss modeling, usually based on severity curves or historical large loss data.
Actuarial implication: XoL provides more targeted protection but is more complex to price and model.
Why might an insurer prefer proportional reinsurance in a growth phase?
It provides:
Capital relief (since reinsurer shares losses and expenses), Ceding commissions to offset acquisition costs, And smooths out earnings early on.
Example:
A start-up insurer might use a 50% quota share to underwrite more premium with less capital, while gaining technical expertise from the reinsurer.
