Reinsurers: pay heed to cedant failure
Reinsurers—especially those writing long-tail quota share business—should pay much closer attention to the financial health of their cedants or face what could be dire consequences if that insurer goes out of business.
That is the view of Peter Hughes, managing director of Litmus Analysis, speaking to Monte Carlo Today. He notes that despite many high-profile collapses by insurers in mature markets in recent years, too many reinsurers bury their heads in the sand when it comes to this risk.
“It depends on the reinsurer’s relationship with the cedant, but I would contend that it’s always important, and gets more important the closer the reinsurer is to ‘following the fortunes’.
“In other words, if you’re writing their long-tail quota share, it should be very important; if you’re just at the top end of the cat programme, less so,” Hughes said.
He said that Litmus has been asking this question of reinsurers regularly over the last 18 months and the inconsistency of responses has surprised him. While some reinsurers take this very seriously others responded that “we don’t think it’s relevant to the risk we’re reinsuring”. Many said that while they would like to monitor it, they don’t have the time or resources.
“There seems to be a common understanding that this is important, but generally with little clarity about how important or what to do about it,” Hughes said.
“Just last year in the UK, two fairly high-profile primary carriers ceased underwriting due to financial duress, and the UK is not alone. Those of us with grey hair know the trail of problems that can leave behind, albeit mostly for policyholders and brokers.”
He believes that reinsurance underwriters tend to focus largely on the risk(s) they see. “If they’re lucky, they’ll see offerings across the board, which should at least give them some idea of what the overall business looks like.
“Even then they won’t be looking at the broader financials or those of mother or sister companies, or have a sense of the probability of survival of the overall business,” he noted.
He stressed that there have been many occasions when a sister company or parent has failed and brought a business down with it.
“The underwriter’s a bit like a knee surgeon doing an operation without checking that the patient’s heart is up to it,” he said.
He stressed that the financial health of an insurer is very relevant especially since companies experiencing problems may start to relax their standards when it comes to underwriting.
“Old school theory has it that when an insurer is under pressure, it may start compromising on underwriting—trying to write its way out of the problem—and senior management pressure may push an otherwise sensible business in that direction,” Hughes said.
“Historically well-performing treaties may be undermined by this. Equally, when issues are apparent externally, their policyholders or brokers may become more selective in the business they offer to them.”
He said that any or all of these can lead to a so-called ‘failure slide’, starting with writing for income and aggressive renewal negotiations.
“Then if/as/when they go out of business, the investment in building the relationship is lost, any chance of payback has probably gone, the credit risk in terms of premiums receivable increases, and ultimately you might find the liquidator on your doorstop insisting you settle outstanding claims even though you haven’t had the premium.
“My advice would be if you want to buy the apartment, check out the neighbourhood.”
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