Ref# 2015-34
Statutory Accounting Principles Working Group
Maintenance Agenda Submission Form
Form A
Issue: Insurance-Linked Securities Disclosure
Check (applicable entity):
P/C
Life
Health
Modification of existing SSAP
New Issue or SSAP
Description of Issue:
The availability of alternative capital in the insurance and reinsurance market has provided benefits to
insurers, policyholders and investors in the form of increased capacity, reduced costs and diversification
of risk. Sources and amounts of alternative capital have increased significantly in recent years and it is
therefore prudent at this time to study and/or enhance regulatory standards for review and reporting of
such transactions.
NAIC staff was directed to research insurance-linked securities (ILS) and to propose disclosures to
capture information regarding an insurer’s and reinsurer’s utilization of these securities. Although the use
of ILS is often viewed as an alternative to the use of traditional reinsurance, ILS generally would not meet
the risk transfer requirements of a reinsurance agreement. These disclosures are intended to capture
information regarding the use of these securities for subsequent review and assessment.
Summary Overview:
ILS are securities whose performance are linked to the possible occurrence of pre-specified events that
relate to insurance risks. While catastrophe bonds (cat bonds) may be the most well-known type of ILS,
there are other non-cat-bond ILS, including those based on mortality rates, longevity and medical-claim
costs. ILS securities may be used by an insurer, or any other risk-bearing entity, in addition to (or as an
alternative to) the purchase of insurance or reinsurance.
To highlight the current marketplace and use of ILS, staff has included excerpts from the NAIC Capital
Markets Bureau Special Report from 09/30/14 (Appendix A) and 02/04/2011 (Appendix B)

The alternative risk transfer market began in the mid-1990s in an effort to expand and diversify
the ability of primary insurers to transfer peak insurance risks, such as hurricanes in Florida and
earthquakes in California and Japan. Alternative risk transfer is the use of techniques other than
traditional (re)insurance that provide risk-bearing entities with protection from risks of loss. The
objective was to attract new, non-traditional capital willing and able to absorb peak insurance risk
uncorrelated to their existing portfolios while seeking favorable returns (Appendix A)

These transactions can offer an insurer several advantages over traditional forms of reinsurance
(Appendix B):
o
The risk is prefunded by the counterparty which means that as long as the bond
proceeds are invested in low risk assets, there is virtually no credit risk in the transaction
to the cedent. Despite this, some past transactions had major problems when the
residential mortgage-backed related collateral that was supposed to be low risk turned
out to instead be much more risky than expected with the real estate market's collapse.
o
These transactions open up an entirely new class of assumers of risks for the cedents
beyond traditional reinsurers.
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o
These transactions are often for multiple year periods. Therefore, they give the cedent
certainty for the terms and cost of several years' worth of reinsurance unlike traditional
reinsurance which is often renegotiated annually.

The ILS market, which was estimated to be approximately $22 billion in total outstanding
(excluding mortality transactions) as of June 30, 2014 according to Munich Re’s second quarter
2014 market update, consists of a variety of sub-markets, one of which is the catastrophe (cat)
bond market. Other significant ILS products include collateralized reinsurance contracts and
industry loss warranties. (Appendix A)

While the ILS market has grown substantially in recent years and U.S insurers are active
participants as bond sponsors, their ownership of these securities is limited. As of year-end 2013,
within the U.S. insurance industry, life insurers held $134 million in ILS, of which 76% was in cat
bonds and 24% in ILS-assuming mortality and morbidity risks. Property/casualty (P/C) companies
held a more modest $29 million of ILS, of which 81% was in cat bonds and 19% was in ILSassuming mortality and morbidity risks. (Appendix A)
To highlight the impact ILS have had on the reinsurance industry, staff has included excerpts from the
NAIC Capital Markets Bureau Special Report from 9/30/14 (Appendix A)

Reinsurers themselves are also taking advantage of the strong market demand for assuming
these risks by transferring some of their own assumed risks to external parties at attractive rates.

Reinsurance providers are finding it particularly difficult to remain competitive in cat reinsurance
lines where price competition from alternative capital providers has been most intense. An
established reinsurance provider maintaining substantial equity may not be able to price
reinsurance at a level competitive with an alternative capital-based provider and still earn a
reasonable return.

One valuable feature of reinsurance sourced from an established reinsurer is the understanding
that reinsurance capacity will be available after the occurrence of a major loss event. This
expectation is based, in part, on reinsurers’ longstanding market history and continuing market
participation even after the occurrence of large losses. A concern of alternative reinsurance users
is the state of the alternatives market after the occurrence of a major loss event.

A critical and unanswered remaining question is: How will the alternatives market respond when
the inevitable large loss occurs? Historically, a large loss has triggered a reinsurance market
tightening, increased reinsurance pricing and the attraction of additional permanent, as well as
temporary, capital. Under the current market structure, it is not clear if this pattern will recur and
how the alternatives market will respond.

Primary insurers have benefited from this trend in a variety of ways: reduced reinsurance cost,
increased availability and better terms. However, reinsurers have found the changing dynamics of
the reinsurance market less beneficial given the reduced profitability. It has introduced more
capital into an industry with declining organic demand and already expanding capital, and these
trends are not expected to reverse anytime soon. Following a major cat event, whether or not
capital attracted from pension funds, hedge funds and other institutional investors will remain in
the market is uncertain, as it would likely depend on investment returns among other factors.
ILS are designed to meet the insurer’s needs, and should meet the insured’s coverage needs in terms of
amount of coverage, risks covered, period of coverage, payment triggers and other important terms.
Although the end result may be similar to a reinsurance agreement, ILS contracts often determine the
amount to be paid to the sponsoring insurer on a generic basis, using non-company specific factors. As
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such, the amount received by the insurer as a result of an ILS contract being triggered could be more or
less than they would have received under a reinsurance claims-paid contract. There are four basis types of
triggers within ILS contracts:
1)
2)
3)
4)
Indemnity Triggers – Based on actual claims incurred.
Industry Index Triggers – Based on industry-wide index of claims.
Parametric Triggers – Based on assumed claims from an actual physical event.
Modeled Triggers – Based on estimated claims generated from a computer model.
Existing Authoritative Literature: None
Activity to Date (issues previously addressed by SAPWG, Emerging Accounting Issues WG, SEC,
FASB, other State Departments of Insurance or other NAIC groups): None
Information or issues (included in Description of Issue) not previously contemplated by the
SAPWG: None
Staff Recommendation:
Staff recommends that the Working Group move this item to the nonsubstantive active listing and
expose this agenda item to collect information regarding the use of ILS by both insurers and
reinsurers. Additionally, this exposure includes an example of a potential disclosure.

Would the reporting entity benefit (receive proceeds) as a result of a triggering event related to an
insurance-related event through some form of insurance-linked security? (Cat bonds are one
example of ILS, but this question is intended to capture any security linked to the possible
occurrence of pre-specified events related to insurance risks in which the triggering event
provides benefits to the reporting entity.)

What are the specific underlying risk features included in each ILS?

What are the salient terms to establish the ILS agreements, including whether (and where)
obligations related to ILS are currently reported on an entity’s financial statement? (If the
reporting entity routinely submits payment to the sponsor (“premiums”) over the term of the ILS,
provide details of the terms, payment structure and financial reporting for the
transaction/security.)

If a triggering event occurred, what would the reporting entity expect to receive under the ILS,
and how would this be reported in the financial statements? What is the gross maximum benefit
the reporting entity can receive under the ILS.
Example of Potential Disclosure Tables
(Staff Note: We would propose that the disclosure note encompass the information requested in the tables
below and the tables would be included for data capture beginning in 2016.)
If an event occurred during the reporting period, provide information on the event, the proceeds received
by the reporting entity, expected claims from the entity from the related event, and how the entity
recognized the benefit on the financial statements.
© 2015 National Association of Insurance Commissioners 3
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Issuer or
Sponsor of
ILS
Key
Attributes
(including
date,
duration and
underlying
risk features)
Issuer or Sponsor
of ILS
Financial
Statement
Impact to
establish ILS
(current
obligation or
original setup costs)
Event & Date
Collateral
Supporting
ILS
(Balance)
Collateral
Supporting ILS
(Structure)
Estimated ILS
Proceeds
Terms and
estimated
payment if
event occurs
(e.g., Type of
trigger,
calculation of
benefit,
relation (if
any) to
incurred
claims)
Estimate Claim
Impact of Event
(Based on the
ILS, could be
zero.)
Gross
Maximum
Proceeds
Under the
ILS
Agreement,
and Net
Proceeds if
related to
incurred
claims.
Impact of ILS on
Financial
Statements
(where reported)
Staff Review Completed by:
Julie Gann and Josh Arpin – July 2015
Status:
On August 15, 2015, the Statutory Accounting Principles (E) Working Group moved this item to the
nonsubstantive active listing and exposed this agenda item to collect information regarding the use of
insurance-linked securities by both insurers and reinsurers, and general information regarding ILS held by
insurers and reinsurers, with the above example template of what may be requested for disclosure.
On October 19, 2015, the Statutory Accounting Principles (E) Working Group exposed proposed
revisions to SSAP No. 1—Accounting Policies, Risks & Uncertainties, and Other Disclosures (SSAP
No. 1) to collect limited information regarding the use of insurance-linked securities (ILS) for a shortened
comment period ending Nov. 13, 2015. These disclosures are proposed for inclusion as pdf disclosures
initially in the Dec. 31, 2015 financial statements. The Working Group will subsequently consider
disclosures or other reporting options (e.g., general interrogatory) that can be data-captured which, upon
adoption, would replace these disclosures.
Proposed Revisions to SSAP No. 1:
Note: The disclosure shall be included in the notes to the statutory financial statements (which are subject
to annual audit) and are not restricted to the annual audited financial statements only, therefore there is no
revision needed to paragraph 3.
3.
Refer to the preamble for further discussion of disclosure requirements. The disclosures
required under paragraph 6 concerning changes in accounting policies shall be made for
each financial statement presented. The disclosures required under paragraphs 9, 10,
12, 13, 15 and 16 shall be included in the annual audited statutory financial reports only.
Insurance Linked Securities (New Section – All paragraphs to be renumbered accordingly)
© 2015 National Association of Insurance Commissioners 4
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25.
Reporting entities shall disclose information when they are the benefactor of possible
proceeds from insurance-linked securities. This disclosure shall specifically identify the
following:
a.
Whether the reporting entity is the benefactor of possible proceeds from
insurance-linked securities (ILS) as a way of managing risks related to directlywritten insurance risks. This disclosure shall include the number of outstanding
ILS contracts, and the aggregate maximum proceeds that could be received as
of the reporting date under the terms of the ILS.
b.
Whether the reporting entity is the benefactor of possible proceeds from
insurance-linked securities as a way of managing risk related to assumed
insurance risks. This disclosure shall include the number of outstanding ILS
contracts, and the aggregate maximum proceeds that could be received as of the
reporting date under the terms of the ILS.
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