3) Principles and Practice of Reinsurance
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3) Principles and Practice of Reinsurance Presentation Transcript

  • 1. (3) PRINCIPLES AND PRACTICE__________________________________________________ 3.PRINCIPLES AND PRACTICE OF REINSURANCE1. The reinsurance 1needs of direct insurers
  • 2. (3) PRINCIPLES AND PRACTICE__________________________________________________ 1.  The reinsurance needs of direct insurers 2.  Forms and methods of placing reinsurance 3.  Reinsurance practices and problems1. The reinsurance 2needs of direct insurers
  • 3. (3) PRINCIPLES AND PRACTICE__________________________________________________ 1.  The reinsurance needs of direct insurers1. The reinsurance 3needs of direct insurers
  • 4. (3) PRINCIPLES AND PRACTICE__________________________________________________1.  Why do Insurers purchase reinsurance?1. The reinsurance 4needs of direct insurers
  • 5. (3) PRINCIPLES AND PRACTICE__________________________________________________ •  The need to protect solvency1. The reinsurance 5needs of direct insurers
  • 6. (3) PRINCIPLES AND PRACTICE__________________________________________________ 2. What determines any deviation in outcomes from R0 to Rn?1. The reinsurance 6needs of direct insurers
  • 7. (3) PRINCIPLES AND PRACTICE__________________________________________________Deviation of outcomes from line R0Rn will depend upon:1.  Accurancy of Premium calculation. Estimate of loss expectancy may differ from the true loss expectancy because: a) Sampling error (function of sample size) b) Failure to identify or allow for changing risk conditions2. The fluctuation of actual outcomes around the mean. (function of sample size) Reserves can be substantially reduced because of a random occurrence of•  LARGE INDIVIDUAL losses or•  ACCUMULATION of losses 1. The reinsurance 7 needs of direct insurers
  • 8. (3) PRINCIPLES AND PRACTICE__________________________________________________ Fluctuation of actual outcomes1. The reinsurance 8needs of direct insurers
  • 9. 1. The reinsurance 9needs of direct insurers
  • 10. 1. The reinsurance 10needs of direct insurers
  • 11. 1. The reinsurance 11needs of direct insurers
  • 12. 1. The reinsurance 12needs of direct insurers
  • 13. 1. The reinsurance 13needs of direct insurers
  • 14. 1. The reinsurance 14needs of direct insurers
  • 15. (3) PRINCIPLES AND PRACTICE__________________________________________________3. The occurence of fluctuations in the basic probabilities. Distribution of yearly outcomes on an unchanging portfolio1. The reinsurance 15needs of direct insurers
  • 16. (3) PRINCIPLES AND PRACTICE__________________________________________________3. The occurence of fluctuations in the basic probabilities. Insurer´s overall operating result Figure3.41. The reinsurance 16needs of direct insurers
  • 17. (3) PRINCIPLES AND PRACTICE__________________________________________________3. The occurence of fluctuations in the basic probabilities.The insurer´s need of reinsurance in order to reduce it´s probability of ruin, will vary according to:The SIZE OF ITS PORTFOLIO•  sample size ->The larger the portfolio, the smaller will tend to be the variability of outcomesAND THE TYPE OF BUSINESS UNDERWRITTEN•  The variation in the size of the individual units exposed to loss•  The degree of interdependece between loss exposures1. The reinsurance 17needs of direct insurers
  • 18. (3) PRINCIPLES AND PRACTICE__________________________________________________Therefore , in examining an insrurer‘s need of reinsurance protection the facts to be considere are:1.  The premiums (no protection against under-pricing)2.  Characteristics of the class of buisness insured and the composition of the company´s portfolio.An other aspect is not only the probability of the aggregate claims in any one year exceeding some predetermined tolerable amount, but also the degree of variability in possible outcomes1. The reinsurance 18needs of direct insurers
  • 19. (3) PRINCIPLES AND PRACTICE__________________________________________________ 2. Forms and methods of placing reinsurance2. Forms and methods 19of placing reinsurance
  • 20. (3) PRINCIPLES AND PRACTICE__________________________________________________ Forms and types of reinsurance Proportional Reinsurance. Non-proportional Reinsurance.Quota Share Surplus Excess of loss Stop loss, or loss ratio Risk basis Occurence basis2. Forms and methods 20of placing reinsurance
  • 21. (3) PRINCIPLES AND PRACTICE__________________________________________________ Forms and types of reinsurance QUOTA SHARE: A fixed Proportional Reinsurance. proportion accepted by the primary insurer and ceded to the reinsurer is the same for all risksQuota Share Surplus (in premium, costs, and claims) SURPLUS: The ceding company reinsures only the balance of those risks beyond it ´s own retention (line).2. Forms and methods 21of placing reinsurance
  • 22. (3) PRINCIPLES AND PRACTICE__________________________________________________ Forms and types of reinsurances Diffrerences between the reinsurer´s loss experience on the total portfolio of business ceded and the primary insruer´s net retained account migth be the cause of: 1.  A badly balanced account leaving the reinsurance portfolio heavely exposed to random fluctuations in loss experience from year to year. 2.  Although a reasonable spread of risks may be ceded, the reinsurer´s portion may be prove to be subject to either larger random fluctuations in losses or to a poorer experience than the retained part. 3.  The primary insurer may cede a larger proportion of the poorer risks it has written.2. Forms and methods 22of placing reinsurance
  • 23. (3) PRINCIPLES ANDPRACTICE____________________________________________________________________TODAY…. Because of the heavy underwriting losses incurred during the 1980 ´s, reinsurers pay more attention to the types of risks they accept. They also place lower limits on treaty capacity (table of limits and lines to provide) involving ceding companies more in their losses experience. The Increase in the number and severity of claims following natural disasters has changed practice in regards to natural perils und property treaties. Therefore proportional reinsurers are no longer prepared to accept potentially unlimited liability for accumulations of natural perils losses, and at the extrem they even may totally exclude cover for natural prils, thats why the insurer requires a CAT XL2. Forms and methods 23of placing reinsurance
  • 24. (3) PRINCIPLES AND PRACTICE__________________________________________________ Forms and types of reinsurance Non-proportional Reinsurance. Excess of loss Stop loss, or loss ratio Risk basis Occurence basis2. Forms and methods 24of placing reinsurance
  • 25. (3) PRINCIPLES AND PRACTICE__________________________________________________ Forms and types of reinsuranceExcess of loss: Usually placed in layers.For Example, 3 separate XL Non-proportional Reinsurance. risks basis:Retain -> up to 1000 €•  XL layer-> Cover: 4000€ xs 1000€ Stop loss, or loss ratio Excess of loss•  XL layer-> Cover: 5000€ xs 5000€•  XL layer-> Cover: 10000€ xs unlimited Risk basis Occurence basis 2. Forms and methods 25 of placing reinsurance
  • 26. (3) PRINCIPLES AND PRACTICE__________________________________________________ Forms and types of reinsurance Stop loss: (or excess of loss ratio) protects a company Non-proportional Reinsurance. against ist aggregate annual net loss experience on a particular underwriting account Excess of loss Stop loss, or loss ratio exceeding some tolerable figure. For Example, a stop loss may cover 40% of the net losses incurred during a year Risk basis Occurence basis in excess of 70%,2. Forms and methods 26of placing reinsurance
  • 27. (3) PRINCIPLES AND PRACTICE__________________________________________________ Forms and types of reinsurances We have following conditions: 1.  Retention of 1 Mio €, reinsured with a XL risks basis 900.000€ xs 100.000€. 2.  Surplus : Capacity of 4 lines of each 1 Mio€ How would be the splitting a claim of 1 Mio € form a risk risk with a sum insured of 4 Mio €?2. Forms and methods 27of placing reinsurance
  • 28. (3) PRINCIPLES AND PRACTICE__________________________________________________ Methods of placing reinsurance The facultative •  was the first method to be used. •  Each risk offered individually to reinsurers, who are free to accept what share they decide or to reject. •  Mainly used for proportional reinsurances Open cover (or facultative obligatory) •  A reinsurer agrees to accept obligatory a share of any business confoming to predetemined conditions regarding class of insurance, type of riks, country , etc. offered by a ceding company; or A broker (brokers open cover) •  No obligation to offer any buisiness •  Mainly used for surplus2. Forms and methods 28of placing reinsurance
  • 29. (3) PRINCIPLES AND PRACTICE__________________________________________________ Methods of placing reinsurance Treaty •  Subject to terms and conditions agreed between the parties and set out in the treaty. •  There is an obligation on the reinsured to cede and the reinsurer to accept risks of a class falling within the limitations of the treaty. Pool •  Take various forms but often a quota share or surplus reinsurance arrangement between participating member. •  According to the rules agreed, insurance accepted by members are ceded to the pool which in turn arranges retocessions to members. •  The pool may retain some part of each risk for ist own account •  Its used for proportional reinsurance, The pool may protect itself by purchasing non-proportional reinsurance from outside reinsurers.2. Forms and methods 29of placing reinsurance
  • 30. (3) PRINCIPLES AND PRACTICE__________________________________________________ 3. Reinsurance practices and problems3. Reinsurance 30practices and problems
  • 31. (3) PRINCIPLES AND PRACTICE__________________________________________________ Inflation Problems of conducting reinsurance business on international scale considerably increased since the end of the 1960‘s. –  DOMESTIC RATES OF INFLATION during the 1970‘s and 1980‘s –  INTERNATIONAL MONETARY FOND‘S SYSTEM of fixed parties between currencies was abandoned And then in the 1990‘s –  LOW LEVELS of INFLATION in the major western economies and capital and funds did flow relatively unhindered across international markets.3. Reinsurance 31practices and problems
  • 32. (3) PRINCIPLES AND PRACTICE__________________________________________________ Inflation influences both Insurers and Reinsurers. –  Rising administrative expenses –  A tendency for INCREASES IN PREMIUM RATES to lag BEHIND THE RISE of property, liability and mos non-life CLAIMS Even though interest rates grow, the increase in investment earnings is usually insufficient to offset fully the higher claimscosts. -> Operating profits fall , -> FREE RESERVES can‘t increase in step with the premiums and -> the solvency margin fall too, -> affecting the financial stability and underwriting capacity.3. Reinsurance 32practices and problems
  • 33. (3) PRINCIPLES AND PRACTICE__________________________________________________ Reinsurers are generally more exposed for 2 reasons: –  The average of settlement delays tend to be longer on reinsured losses. Generally under both SURPLUS and NON-PROPORTIONAL , reinsurers are involved in the larger losses, and larger losses tend to be longer to settle than small claims. 2.  Under EXCESS OF LOSS, inflation may a) take more claims above the lower excess limit, and b) for losses within the excess of loss reinsurance band, the reinsurer will bear the full impact of inflation.3. Reinsurance 33practices and problems
  • 34. (3) PRINCIPLES AND PRACTICE__________________________________________________ Floating exchange rates The effect of movements in exchange rates on the respective financial positions of a ceding company and ist reinsurer(s) will depend upon: 1.  The provisions regarding the currency(ies) in which accounts are to be rendered and settled. 2.  The abilitiy of the reinsurer to match liabilities with assets in the same currency(ies). Problems:1.  Time lags between the recept of premiums and payment of the claims2.  Localisation of technical reserves or capital market conditions are unfavourable.3.  The degree of variability in claims costs4.  Freedom to move funds at will and to retain foreign currencies is restricted. 3. Reinsurance 34 practices and problems