Reinsurance

Reasons for reinsurance

1. Improve the portfolio of insured's underwritten -Reinsurer experience -Global scale -Risk divided into smaller parts -Catastrophe coverage 2. Increase underwriting capacity 3. Decrease expenses -Ceding commissions

Definition of retrocessionaire

Reinsurance on reinsurance

Treaty reinsurance

-All policies subject to specific criteria are automatically subject to reinsurance. E.g. all homeowners or fire insurance policies in a given geographic area. Policies are not looked at on an individual basis.

Stop Loss (Excess of Loss Ratio)

-Applies to the company's aggregate results (company wide or for a specific line) -Not common, usually used for crop, hail, and small insurance companies. It is also useful for catastrophes. -Usually the reinsurer agrees to pay some percent of excess claims above the point of attachment, usually 90-95%.

Advantages of Quota Share

1. Provides surplus relief- reduces the strain on surplus from new business 2. Ceding insurer receives a ceding commission. May be relatively compared to other types of reinsurance. Reason is that reinsurer doesn't have to worry much about moral hazard. Reason is that the ceding co. shares in every loss. When a flat commission %, there may be a profit-sharing or contingent commission that depends upon the loss ratio. Negotiated at the end of the policy if the reinsurer makes a good profit on the business. 3. Protect from underwriting mistakes. Ceding insurer may be worried about changes in losses (liability). This can be important if the ceding co. is starting to write business in a new line. 4. Useful in dealing with inflation. Unexpected inflation makes losses higher for cedent, but reinsurer shares in the inflated losses

Advantages of excess of loss reinsurance

1. Stabilizes loss experience by eliminating large losses. Reinsurer pays losses above attachment point. 2. Aids in catastrophe better than quota share. 3. Provides capacity for large lines- risk of very large losses are passed on to the reinsurer.

First reinsurance transaction

1370

Excess of policy limits losses

Results when a reinsurer sues an insurer for failing to settle a claim within the insured's policy limits when the primary insurer had a chance to. So the primary insurer is responsible for the excess losses. Reinsurance covers this only if the reinsurance policy explicitly says so.

Quota Share

The premiums and losses are split in the same proportion. The proportion "a" Loss (CC): a* (Total Loss) Loss (RE): (1-a)* (Total Loss)

Nonproportional reinsurance

Reinsurer is responsible only for the losses that are above a threshold level or a retention level. The retention level is called the point of attachment.

Proportional reinsurance

Premiums AND losses are split in an agreed upon proportion.

Reasons for facultative reinsurance

1. Treaties have exclusions- such as property like bridges, art museums, nuclear facilities, tunnels, etc. 2. To protect treaties. Ceding co wants to write a large/unusual risk but does not want to strain treaty relationships with a large loss for that risk. 3. Treaties have limits (e.g. maximum $ loss on one risk or for all losses accumulated together). To get additional coverage facultative coverage must be used. 4. Reduce exposure in a given geographic area (e.g., Homeowner insurance in Florida)

Per Occurrence Excess of Loss

-Applies to losses from any one event and usually applies to liability insurance. Protects primary company from interdependent claims. -Clash cover - Liability exposures; reinsurance combination of liability lines of business (e.g., workers compensation, general liability) Pure risk cover - Clash cover for liability and catastrophe excess of loss expected to cover only rare events (not designed to cover claims commonly covered by other types of reinsurance). Primary insurers also use clash cover when they want protection from extracontractual damages - and excess of policy limits losses

Aggregate Excess of Loss

-Can be used for property or liability -Aggregation usually covers an aggregation of losses above the attachment point. An aggregation takes place over a stipulated period of time such as a year. This reinsurance is not limited to when there is a catastrophe or specified events occurs. This reinsurance includes catastrophes/occurrences plus unforeseen accumulations of losses during the specified time period.

Working cover or working excess treaties

-Excess of loss per risk treaties with low retentions -Retention varies by type of insurance (e.g., retention would be different for property versus liability). Usually used for liability insurance.

Catastrophe Excess of Loss

-Protects cedent from an accumulation of retained losses that arise from a single catastrophic event. -Payments from reinsurer to primary insurer for catastrophe losses reduce the reinsurance coverage available for future losses, except a provision is usually included to pay an additional premium called the reinstatement premium to reinstate the limits of the agreement after a loss.

Clauses in reinsurance treaties

-Utmost good faith - Full disclosure of all material facts about the subject of the agreement -Statistics clause - If info provided by the cedent is too optimistic, then the reinsurer has the right to revise the premium -Stabilizing clause - Allows the point of attachment (the retention level) to be revised for inflation. -Reinstatement clause - after a loss, the cedent must pay the premium again to get the limit reinstated. The premium paid is not the full premium.

Disadvantages of surplus share

1. Higher overall administrative expense than quota share- because proportions reinsured vary with face values of the policies 2. Does not protect primary from interdependent or catastrophic claims which can accumulate to large losses - The line limit would have to be paid on each policy, and this can accumulate to a large amount of money. But, better catastrophe protection than from quota share.

Disadvantages of Quota Share

1. Losses may accumulate to a large amount of money E.g., if higher frequency/ severity of losses. No limit on aggregate losses to the ceding co. 2. No catastrophe protection. 3. Giving up profitable business

Advantages of surplus share

1. Provides some surplus relief. Ceding commission is lower than for quota share. Partly because the maximum loss for the ceding co=line limit. For Quota share the maximum is the % *face value 2. Primary insurer pays small claims which do not have much of an impact on the portfolio. Avoids administrative losses (avoids "trading dollars") 3. Provides some large line capacity. Primary shares is limited to line limit and then the primary can reinsure the necessary number of lines to get enough capacity. If maximum loss occurs, then the CC is responsible for only the line limit. 4. Some protection from inflation. Inflation would have a tendency to push claims up over the line limit, but the ceding co. is responsible for a maximum equal to the line limit. Better protection than under quota share.

Disadvantages of excess of loss reinsurance:

1. Reinsurance has upper limit. 2. No ceding commission.

Extracontractual damages

Damages awarded to an insured as a result of an insurer improperly handling a claim. The improper behavior is referred to as "bad faith". "bad faith" losses are not covered by any reinsurer unless the policy explicitly says so

Facultative reinsurance

For business not subject to treaties. -Negotiated on case by case basis primary insurer provides detailed information on each exposure. Therefore expensive -May be signal of adverse selection

Surplus Share

Proportionate split between premiums and losses which varies directly with the amount o the individual policy. No sharing of losses less than a specified percent-saves administrative cost. Usually used for property insurance only. CC: (line limit/policy face) * Loss RE: No. of lines* line limit/policy face

Definition of reinsurance

Transfer of insurance risk from one insurer to another through a contractual agreement under which the reinsurer agrees, in return for a reinsurance premium to indemnify the primary insurer for some or all of the financial consequences of the loss exposures covered by the reinsurance contract.