Ed Halsey, COO: “We recently took on a fantastic team who were new to the industry through the government-backed Kickstart scheme. Our team have been putting them through their paces and training them in all things insurance, after which they will be training in various areas of the business, from software development to marketing. One of the pieces of coursework we had them work on was providing a view on the reinsurance market, what it was and the benefits in a modern-industrial era. I was so blown away by Nicole’s response that I had to share what she’d written and thought what better way than to immortalise that in a blog post on the hubb website!
What is Reinsurance?
A new insurance, affected by a new policy in which an insurance company has purchased from another insurance company to transfer all or some of the risk that they carry in the event of a major claim. A definition of reinsurance was made in the English court in Delver v Barnes (1807) as: ‘A new insurance, affected by a new policy, on the same risk which was before insured in order to indemnify the underwriters from their previous subscriptions; and both policies are in existence at the same time.’
The overall benefits of reinsurance:
- Reduces the burden of risk; When an insurance company single-handedly insures a large number of clients, they take on a huge amount of risk. Reinsurance is a strategy to minimize that risk, by transferring some of the risk they carry on to the services of a reinsurance company.
- Reduces the number of insurance policies a client needs to buy; If a client would like to insure a very expensive property against any calamities and no individual insurance company is capable of taking on such a large risk, the client would ultimately have to approach multiple insurance companies and enter into individual insurance contracts just to insure their property. Reinsurance helps the client avoid this as the client is only required to buy one policy from one insurance company.
- Allows insurers to remove low-frequency, high-severity risks from a portfolio of high-frequency, low-severity risks, e.g., liability reinsurance for a motor insurer.
- Protects shareholders’ funds; All insurers to a degree are exposed to the dangers of their accumulated risk being susceptible to a single event.
Effects of reinsurance:
- Smoothing of results; The aim of reinsurance is to deal with losses that are greater than expected average and, therefore, to smooth out peaks and troughs in the insurers’ profit and loss accounts caused by the random nature of loss occurrences.
- Protection of shareholders’ funds; All insurers, to some degrees are exposed to the dangers of their accumulated risk being susceptible to a single event. In the event of a major catastrophe (such as a tsunami) which is unprotected by reinsurance, accumulation causes a severe drain on the insurer’s financial resources. In the worst scenarios, it may even cause the insurer to fail, resulting in a complete loss in value to the shareholders.
- Competitiveness and opportunity; Sometimes, insurers are asked to accept a greater sum insured than their normal judgements would allow. They may be asked to provide a cover for a risk of a type that they would not normally wish to accept. By buying reinsurance protection, they can consider larger risks and reinsure the amounts above their normal limits.
- Capital Management; Companies can avoid having to absorb large losses by transferring the risk. This frees up additional capital.
In recent years, the reinsurance industry has continued to develop and expand. Leading companies such as Swiss Re, have more capacity to allow more risk-taking, leading to higher profits.