broker
12 September 2014 Insurance

The brokers’ perspective

As the landscape for buyers rapidly changes, many have invested in changing with the times—spending on expertise and back office systems. But where has that left the role of individual reinsurance buyers and the dynamic of these departments with reinsurance brokers? 
Intelligent Insurer finds out.

“The cost of transferring the most challenging US catastrophe risks has been cut in half over the past two to three years." Bryon Ehrhart

The sophistication of reinsurance buying departments has been increasing for some time now, with new hires and investments transforming the way risk transfer is viewed and managed within cedants.

And this pace of change has accelerated further in recent years thanks to the explosion of the insurance-linked securities (ILS) markets and other forms of alternative capital offering buyers an expanding range of options when it comes to how they manage their risk.

This has led to a need for more sophisticated buyers and also a changing dynamic in terms of their relationship with brokers. Most brokers agree that the role of reinsurance is now regarded as more important than it used to be.

“Buyers are more important within their own organisations. The role is more important—it is often the second biggest cost for many companies now and the structures are becoming ever more sophisticated for sellers,” says Mike Schnur, a senior reinsurance leader at TigerRisk Partners.

“It is not necessarily a recent trend—insurers have been becoming increasingly sophisticated in the way they approach reinsurance buying for some time now. I have seen a number of people over the years make the transition from broker to buyer.

"The role is more technical and more challenging than it was and better people make more sophisticated decisions.” Mike Schnur

“It has been part of the natural process of departments upgrading and bringing in smarter people. The role is more technical and more challenging than it was and better people make more sophisticated decisions.”

Fulcrum of responsibility

The dynamic of how the world of the individual reinsurance buyer has changed is less straightforward. While the importance and complexity of buying reinsurance has clearly increased dramatically, the role of individual buyers has morphed in different ways in different insurers.

In some businesses, the chief financial officer has taken on ultimate responsibility for this function; in others, entire departments have been developed. As regulatory and rating agency stipulations have put a greater focus on the rules around capital relief and measurements, the role of the reinsurance buyer has taken on a strategic importance that it did not have before.

David Sibree, director of the specialty treaty division in broker Alwen Hough Johnson, says that while he has noticed a number of Lloyd’s syndicates recruiting expertise from brokers, he has also noted that a lot of companies have centralised the final decision-making process around reinsurance.

“Chief executives and chief financial officers are often now involved, which is a relatively new thing,” he says. “Reinsurance is often a C-suite decision, with the reinsurance buyer acting more as a coordinator of the process, bringing it all together in one place. In some instances, that has resulted in the individual buyers having less power than they used to, as the CEO and CFO have the final sign-off.”

Alastair Speare-Cole, the former chief executive of JLT Towers Re, speaking before his departure in late August, agrees that the changes in recent years have represented a double-edged sword for individuals who specialise in structuring reinsurance programmes.

“Ten years ago, it was rare in a Lloyd’s vehicle to find an identifiable person whose main responsibility was buying reinsurance. That has changed—only a minority do not have a head of ceded re,” Speare-Cole says. “The irony is that they also have less power than they used to. That final decision does tend to rest with the CFO and CEO now.”

Bryon Ehrhart, CEO of Aon Benfield Americas, has a different take on the way things have changed within the bigger cedants. He actually believes that individual reinsurance buying departments have not necessarily seen investment; instead, the function, although more sophisticated, has been absorbed centrally.

“In general, I don’t see a trend towards insurers increasing investment in their reinsurance buying departments. In fact, these departments are often seen to shrink as insurers raise retentions,” Ehrhart says.

“What we do see happening is that reinsurance for both catastrophe and casualty risks has become so efficient, underwriting, treasury or finance staff and leadership have become much more involved in the conversation and analysis of how best to use the now more accretive capacity to improve the value proposition of insurance to the insured.”

He agrees that the change has accelerated in recent years, driven by the influx of alternative capacity into the industry and a subsequent lowering of the costs associated with transferring some risks.

“The cost of transferring the most challenging US catastrophe risks has been cut in half over the past two to three years,” he says.

“Rather than seeing this as a build-up of the reinsurance department of the cedant, we believe the increased organisational involvement is due to the fact that alternative capital sources present a significant opportunity for insurers. Its significance allows the entire organisation to think differently—not just the reinsurance department.

“Insurers have the chance to direct the alternative capital flows and have not resisted it as reinsurers largely have until recently. There is more alternative capital available than can be deployed in the reinsurance business. Insurers know this and they are actively working to incorporate its value into their products.”

A different role

What have these changes meant for the brokers? Most seem to have welcomed the changing dynamic. While it has shifted the emphasis away from their ability to form long-term relationships, it appears that a more sophisticated cedant is also more appreciative of some of the value-added services brokers have been developing in recent years.

“Some insurers have brought modelling in-house, for example, but they still need help interpreting the data,” says Schnur at TigerRisk. “Sectors such as property-catastrophe are very sophisticated now but that holds the broker to account and helps firms like ours.

“Part of our job is to educate the clients around the different options available, including ILS, and how they can all fit together. The client needs to be comfortable with that. I would say it is easier for us, the more sophisticated they are.

“The use of capital by clients is a lot more sophisticated now and that is reflected by the choice available. Fifteen years ago, they might have bought in three simple layers with a reinstatement. They didn’t necessarily understand more sophisticated mechanisms. Now, it is about finding the right capital to match a risk appetite—it is a much more engaging discussion. As a broker, I much prefer that dynamic.”

Schnur adds that it is impossible to generalise, however. He stresses that each cedant is different and that there is a big difference between the sophistication of a large global insurer and a single-state player in terms of their sophistication and reinsurance requirements.

“Tiger’s drive is to deal with a limited number of sophisticated buyers. We don’t try to get clients if we do not believe we can add value,” he says.

Sibree at Alwen Hough Johnson believes that more sophisticated buyers are a good thing for brokers—but not necessarily for reinsurers of a certain size.

“The days of opportunistic buying based on price are gone, which is a big change for the industry,” he says. “These days, every penny is analysed and cedants examine how they will benefit. If it does not benefit their top line or bottom line, they will not buy.

“That has had an impact on some reinsurers. It has squeezed the mid-tier of the industry. Buyers are looking much more carefully at the reinsurers they use. The smaller reinsurer has to work harder to make themselves relevant to cedants. If they are not able to compete in other ways, this could trigger consolidation.”

Speare-Cole gives more context. He says that the shift started some 20 years ago when insurers started re-examining the way they thought about risk-based capital. Fuelled by data and computers they started to create internal models which in turn led them to seek greater diversity in their businesses, and to retain some of the risk that they previously gave away to reinsurers.

“This allowed them to retain more of the profits,” Speare-Cole says. “What they retain and what they reinsure relates directly to their capital model.”

People have tackled this change in different ways but almost all have some central control over reinsurance purchase. The biggest carriers have held on to a lot more risk in recent years—it has been a big change for the market.”

Yet Speare-Cole also agrees that this shift has not necessarily been to the detriment of brokers. “Years ago, personal relationships were the main currency of a reinsurance broker; these days, cedants want detailed analysis and modelling of risk. Increasingly a broking house’s relationships transcend individual programmes—the broker must coordinate all programmes. Those with the skills and ability to do that are doing well.”

Magnifying the power

This dynamic is perhaps magnified by the specific market conditions in reinsurance at the moment. With so much capital sloshing around—alternative and otherwise—most agree that the boot is firmly on the foot of cedants when it comes to negotiations—a position that can also benefit brokers who are able to secure better deals.

“The influx of new capacity is definitely empowering primary insurers and their reinsurance brokers,” says Schnur. “It is safe to say that reinsurance buyers are in a stronger position as new reinsurer entrants are aggressively pursuing opportunities and traditional reinsurers are being more responsive as a result.

“In general, the reinsurance markets are agreeing to terms and conditions today they may not have agreed to only years ago. For example, multi-year programmes, which were once quite rare, are now commonplace, as are bespoke terms and conditions highly specific to individual clients.

“Another indication that the balance has shifted to cedants is the willingness on the part of many reinsurers to consolidate multiple reinsurance towers into a single contract.”

Brokers are facilitating such deals at the moment in a world that has changed beyond all recognition for buyers. In recent years brokers seem to have refined themselves and to be flourishing. If market conditions change, it will be interesting to see if this dynamic changes again.

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