Reinsurance

1. Reinsurance Session 3

2. Reinsurance • CATASTROPHE (RE)INSURANCE • 2 Examples from Caribbean Region: • Monoline Property Insurer • Multi-line Non-life insurer

3. Reinsurance • CATASTROPHE (RE)INSURANCE • Aggregate Exposures • Total sums insured by line of business & location. • Assess likely loss scenario • Must be plausibly severe • Preferably modeled by a reputable modeling agency • Does capital and reinsurance cover the loss scenario? • The real issue for supervisors!

4. Reinsurance – Catastrophe Reinsurance A Caribbean Insurer Ltd. Aggregate Property Exposures – Y.E. March 31, 2008. A Caribbean Insurer Ltd. Abridged Balance Sheet – Y.E. March 31, 2007. US$ (net of fac) Anguilla 24,333,470 Antigua 82,534,118 Bahamas 513,572,642 Barbados 655,535,718 Belize 1,648,750 BVI 1,645,250 Cayman 1,177,224,951 Curacao 10,298,520 Dominica 21,762,939 Grenada 29,952,188 Jamaica 91,490,811 St. Lucia 36,008,407 St. Kitts 22,141,125 St. Nevis 6,779,389 St. Maarten 70,676,148 St. Vincent 6,158,620 Trinidad & Tobago 325,000 Turks & Caicos 160,551,133 USVI 847,027,808 Aggregate Property Exposures 3,759,666,987 US$ Fixed Assets 1,976,554 Other Assets 63,194,128 Total Assets 65,170,682 Insurance Liabilities 20,507,368 Other Liabilities 11,271,860 Total Liabilities 31,779,228 Net Asset Value 33,391,454 Share Capital 29,644,330 Retained Profits 3,747,124 Shareholders Equity 33,391,454 US$3.8 billion risk backed by US$33.4 million assets

5. Catastrophe Reinsurance Aggregate Exposures Probable Maximum Loss PML – Reinsurance Cover – Capital ≥ Zero • The Critical Business Process • Assess severity of probable loss • Inputs include sophisticated models & management’s judgment • Control underwriting based on PML - RI

6. Catastrophe ReinsuranceAggregate Exposures Homeowner / Residential Commercial & Construction Total Cayman Is 559,524,567 589,584,682 1,149,109,249 USVI 554,261,938 290,795,370 845,057,308 Other 1,708,468,339 1,708,468,339 Total 2,822,254,844 880,380,052 3,702,634,896 Analyze into cat-exposed portfolios (US$): Apply PML assumptions to these numbers

7. Catastrophe ReinsuranceAggregate Exposures to Probable Maximum Loss Aggregate Exposures 1. Severity of Loss Scenario for year Modeled Scenario:1yr. in 50; 1yr. In 100 etc. 2. Underwriting Selection Criteria Windstorm Distance from shoreline Elevation above sea level Topography Retrofitting of buildings Business Assumptions $1.7B Quake Location, Location, Location Retrofitting of buildings $1.2B Underwriting Discipline $845M PMLs Other Caribbean Is. Further Reading: 1. A Probable Maximum Loss Study of Critical Infrastructure in Three Caribbean Island States Caribbean Disaster Mitigation Projecthttp://www.oas.org/cdmp/document/pml/pml.htm#executive 2. Natural Catastrophe Probable Maximum Loss Woo.British Actuarial Journal 2002. Cayman Cayman USVI USVI Other

8. Non-life ReinsuranceTypes of Contract – A reminder Non-Proportional Excess of Loss Specified limit e.g. $65m. Specified deductible e.g. $5m. Specified line of business coverage Specified number of reinstatements. Proportional Quota share Traditionally, shares premiums and claims in the same proportions Specified line of business coverage BUT: Aggregate cession limits Event limits Risk limits

9. Catastrophe ReinsuranceReinsurance Program for Y.E. March 31, 2008 75% Quota Share Max. single risk limit US$4m of which 75% is ceded & 25% retained. All territories excl. Cayman & USVI. • 52% placed. (That is 39% r/i cover) • Event limit is 15% of aggregate exposure, or 100% of PML. • Cession limits US$4m per risk, but aggregate cession limit varies by territory. Commercial Excess of Loss US$30million XS US$5million All territories. • 100% placed. • 1 Reinstatement. Residential Excess of Loss US$65million XS US$5million All territories. • 100% placed. • 1 Reinstatement. Umbrella Property Catastrophe US$110million XS 1.US$70m Residential, 2. US$35M Commercial, and 3. QS Event & Cession limits All territories. • 100% placed. • 1 Reinstatement. Property Per Risk • US$350k XS US$150k • US$500k XS US$500k • US$4million XS US$1million • US$2.5million XS US$5million (Kicks in after all other reinsurances) (Reinsured decides what constitutes a risk) • All territories • All territories • All territories • Cayman Is only • All layers 100% placed. • 3 Reinstatements. • 2 Reinstatements. • 1 Reinstatement. • 1 Reinstatement.

10. Catastrophe ReinsuranceReinsurance Program for Y.E. March 31, 2008 • Aggregate limits per cover note: • Northern Caribbean: $312m • Southern Caribbean: $183m • Compare to aggregate exposure (slide 5) of $1.7billion for non Cayman & USVI risk. • The underwriting has overshot the cession limits, so reinsurance cover is “averaged” down in proportion (say by 1/3rd). Reinsured decides what constitutes one risk. That is, they can decide whether to aggregate it if its part of a catastrophe, or not.

11. Catastrophe ReinsuranceReinsurance Program for Y.E. March 31, 2008 US$180m • Umbrella Property Catastrophe $110m XS: • $70m Residential • $35m Commercial • QS Event Limits (15% Agg. Exp.) • & 1 Reinstatement US$70m • $4m per risk limit is reduced: • Contract is only 59% placed. • Averaged down by a factor of 3. Residential XL, $65m xs $5m & 1 Reinstatement US$35m 15% Max. Agg. Exp. Zone B $27.45m Commercial XL, $30m xs $5m & 1 Reinstatement Per risk XL $7.5m XS $150k Other RI to be used first. US$5m Quota Share. Max of US$0.79m per risk

12. Catastrophe ReinsuranceReinsurance Program for Y.E. March 31, 2008 US$180m Loss Scenario Assume 3 hurricanes causing losses to residential book of business: 2 losses of $75m & 1 loss of $35m to the insurer. • Umbrella Property Catastrophe $110m XS: • $70m Residential • $35m Commercial • QS Event Limits (15% Agg. Exp.) • & 1 Reinstatement US$70m Residential XL, $65m xs $5m & 1 Reinstatement US$35m Net premium income for 2007 was US$22million, which improves the above outcome. Commercial XL, $30m xs $5m & 1 Reinstatement Per risk XL $7.5m XS $150k Other RI to be used first. US$5m Quota Share. Max of US$0.79m per risk

13. Non-Catastrophe ReinsuranceReinsurance Program for Y.E. March 31, 2008 US$180m • Umbrella Property Catastrophe $110m XS: • $70m Residential • $35m Commercial • QS Event Limits (15% Agg. Exp.) • & 1 Reinstatement Net premium income for 2007 was US$22million. Doesn’t help that much when you add in the attritional non-cat losses! US$70m Residential XL, $65m xs $5m & 1 Reinstatement US$35m Commercial XL, $30m xs $5m & 1 Reinstatement Per risk XL $7.5m XS $150k Other RI to be used first. US$5m Quota Share. Max of US$0.79m per risk

14. Non-Catastrophe ReinsuranceReinsurance Program for Y.E. March 31, 2008 US$180m • Umbrella Property Catastrophe $110m XS: • $70m Residential • $35m Commercial • QS Event Limits (15% Agg. Exp.) • & 1 Reinstatement • Catastrophe losses have appropriate RI cover, but limited to two events • Beware of attritional claims not covered by RI • Don’t forget about net premium income US$70m Residential XL, $65m xs $5m & 1 Reinstatement US$35m Commercial XL, $30m xs $5m & 1 Reinstatement Per risk XL $7.5m XS $150k Other RI to be used first. US$5m Quota Share. Max of US$0.79m per risk

15. Non-Catastrophe Reinsurance • The example was a monoline property insurer. • Diversified insurer – reinsurance is usually designed to respond to a variety of business lines. • PMLs & Loss Scenarios for all lines must be covered by reinsurance and capital.

16. Multi-line ReinsuranceAnother Insurer Y.E. 31 March 2009 Cover Business covered Comments 90% Quota Share (non-obligatory) • Cession limit: $4m any one risk B) Cession limit: $1m any one risk • Property, Business Interruption, CAR (material damage). B) Burglary, Personal Accident, Marine Cargo, Fidelity, Personal effects. 1. Aggregate cession limit of $600m. Quake & Windstorm 2. Event limit for Quake and Windstorm $90m or 15% of in force aggregate exposure. 3. 100% placed: Everest Re. Catastrophe XL $7.5m XS $750k. 1 Reinstatement Fire, Homeowners Comprehensive, Motor, Business Interruption, CAR (material damage). 1. 100% placed: Lloyd’s (Chaucer) Motor XL $500k XS 500k (Annual aggregate limit: $6.0m) $4.0m XS $1.0m (Annual aggregate limit: $12.0m) $2.5m XS $5.0m (Annual aggregate limit: $7.5m) All classes of business. Motor, Workers Comp., Employers Liability, Third Party and CAR Liability. 1. 100% placed: 40% Lloyd’s (Canopius), 60% Odyssey Re. Summary of Reinsurance Cover Notes

17. Multi-line ReinsuranceAnother Insurer Y.E. 31 March 2009 Cover Business covered Comments 90% Quota Share (non-obligatory) • Cession limit: $4m any one risk B) Cession limit: $1m any one risk • Property, Business Interruption, CAR (material damage). B) Burglary, Personal Accident, Marine Cargo, Fidelity, Personal effects. 1. Aggregate cession limit of $600m. Quake & Windstorm 2. Event limit for Quake and Windstorm $90m or 15% of in force aggregate exposure. 3. 100% placed: Everest Re. Catastrophe XL $7.5m XS $750k. 1 Reinstatement Fire, Homeowners Comprehensive, Motor, Business Interruption, CAR (material damage). 1. 100% placed: Lloyd’s (Chaucer) Motor XL $500k XS 500k (Annual aggregate limit: $6.0m) $4.0m XS $1.0m (Annual aggregate limit: $12.0m) $2.5m XS $5.0m (Annual aggregate limit: $7.5m) All classes of business. Motor, Workers Comp., Employers Liability, Third Party and CAR Liability. 1. 100% placed: 40% Lloyd’s (Canopius), 60% Odyssey Re. Summary of Reinsurance Cover Notes • Aggregate sums insured are $550 million • - within the cession limit. • Note the event limit • - if no other claims, responds to 6 events • Per risk limits split by line of business • - $4m per risk for property • - $1m per risk for other LOBs • Non-obligatory QS

18. Multi-line ReinsuranceAnother Insurer Y.E. 31 March 2009 “Motor XL” “Catastrophe XL” 8m- 7m- 6m- 5m- 4m- 3m- 2m- 1m-

19. Multi-line ReinsuranceAnother Insurer Y.E. 31 March 2009 “Motor XL” “Catastrophe XL” $7.5m xs $750k + 1 Reinstatement Fire, Homeowners, Motor, Business Interruption, CAR-material damage 8m- $6.5m xs $1m Motor, Workers’ Comp, Employers Liab, TPL, CAR Liability 7m- 6m- 5m- $500k xs $500k All lines of business 4m- 3m- 90% QS, $4m per risk limit Property, Business Interruption, CAR-material damage 2m- 1m- 90% QS, $1m per risk limit Burglary, PA, Marine Cargo, Fidelity

20. Multi-line ReinsuranceAnother Insurer Y.E. 31 March 2009 “Motor XL” “Catastrophe XL” • Interaction Between Contracts • Reading all the contract wordings reveals: • Use Quota Share before XL • Use Motor XL before Catastrophe XL • CAT XL • “Two Risk Warranty” for all covered lines of business. Two losses from one event are necessary before making a recovery. A Hurricane or Quake are not necessary. • Motor XL • Motor (own physical damage) is only covered for hurricane / quake • All other lines are covered on an “each & every loss” basis $7.5m xs $750k + 1 Reinstatement Fire, Homeowners, Motor, Business Interruption, CAR-material damage 8m- $6.5m xs $1m Motor, Workers’ Comp, Employers Liab, TPL, CAR Liability 7m- 6m- 5m- $500k xs $500k All lines of business 4m- 3m- 90% QS, $4m per risk limit Property, Business Interruption, CAR-material damage 2m- 1m- 90% QS, $1m per risk limit Burglary, PA, Marine Cargo, Fidelity

21. Multi-line ReinsuranceAnother Insurer Y.E. 31 March 2009 “Motor XL” “Catastrophe XL” $7.5m xs $750k + 1 Reinstatement Fire, Homeowners, Motor, Business Interruption, CAR-material damage 3 8m- e.e.l. except motor damage 2 $6.5m xs $1m Motor, Workers’ Comp, Employers Liab, TPL, CAR Liability 7m- Two risk warranty 6m- $500k xs $500k All lines of business 5m- 4m- 1 3m- 90% QS, $4m per risk limit Property, Business Interruption, CAR-material damage 2m- 1m- 90% QS, $1m per risk limit Burglary, PA, Marine Cargo, Fidelity 1

22. Multi-line ReinsuranceAnother Insurer Y.E. 31 March 2009 Within event limit of $90m. The reinsured can determine what constitutes a risk under QS. If justifiable, it can of adjust its recovery under the QS to take maximum advantage of the XL. QS is NON-OBLIGATORY Assume a catastrophe loss of $75million Gross loss $75m Quota Share recovery – 90% ($67.5m) Cat XL recovery ($7.5m) Net loss ZERO to Motor XL does not cover property. (assume 500 xs 500 is used up) A single claim recovery can be split into 90% QS & 10% XL. 1 3

23. Non-life Supervisory Assessment Capital + Reinsurance cover > Loss scenario Summarize the reinsurance cover notes • Catastrophe business: • Get aggregate exposures • Understand & assess PML assumptions • PML assumptions consistent with underwriting guidelines • Onsite walkthrough test underwriting • Non-catastrophe business: • Compare loss ratio to prior years and market experience • Ensure that improved loss ratios are consistent with stricter underwriting • Onsite walkthrough test underwriting

24. Reinsurance • CASE STUDY – ROUND 2 • Contract Wordings • Read the wording: • Identify areas where clarification is required • What questions would you ask the insurer? • What suggestions do you have to improve the wording?