Marine Reinsurance in 2008
21 January 2008
A Berkshire Hathaway Company
TABLE OF CONTENTS
1 Reinsurance Market
2 Basic Principles of Reinsurance
3 Issue’s and Trends
4 Pricing in the Future
2
1 Reinsurance Market
The Insurance Industry – Simplified
REINSURERS
R/I BROKERS
LLOYDS
INSURERS
Broker / Agent / Producer
INSUREDS
3
1 Reinsurance Market
Top Ten Global Property/Casualty
Insurance Companies, by Revenues, 2006
US$ millions
1
1
2
2
3
3
4
4
5
5
6
6
7
7
8
8
9
9
10
10
Allianz
Allianz
American International Group
American International Group
Berkshire Hathaway
Berkshire Hathaway
Zurich Financial Services
Zurich Financial Services
State Farm Insurance Cos.
State Farm Insurance Cos.
Munich Re Group
Munich Re Group
Millea Holdings
Millea Holdings
Allstate
Allstate
Swiss Reinsurance
Swiss Reinsurance
Hartford Financial Services
Hartford Financial Services
Germany
Germany
U.S.
U.S.
U.S.
U.S.
Switzerland
Switzerland
U.S.
U.S.
Germany
Germany
Japan
Japan
U.S.
U.S.
Switzerland
Switzerland
U.S.
U.S.
$125,346
$125,346
$113,194
$113,194
$98,539
$98,539
$65,000
$65,000
$60,528
$60,528
$58,183
$58,183
$36,067
$36,067
$35,796
$35,796
$32,118
$32,118
$26,500
$26,500
(1) Based on an analysis of companies in the Global Fortune 500. Includes stock and mutual companies.
(2) Revenues include premium and annuity income, investment income and capital gains or losses, but exclude
deposits; includes consolidated subsidiaries, excludes excise taxes.
Source: Fortune.
4
1 Reinsurance Market
World Largest Reinsurance Brokers
Source: Business Insurance, October 24, 2005
2005 Gross Revenues 2004 Gross Revenues
1
2
3
4
5
6
7
8
9
10
Aon Re Global
Guy Carpenter & Co. Inc.
Benfield Group Ltd.
Willis Re
Jardine Lloyd Thompson
Towers Perrin
Cooper Gay (Holdings) Ltd.
BMS Group
Gallagher Re
John B. Collins
$920,000,000
838,000,000
589,800,000
565,000,000
155,800,000
153,300,000
92,800,000
75,300,000
75,000,000
52,000,000
$940,000,000
868,000,000
558,300,000
550,000,000
145,200,000
146,000,000
57,550,000
73,000,000
78,000,000
48,100,000
% Change
-2%
-3%
16%
15%
7%
5%
2%
3%
-4%
8%
3,000
2,606
1,700
1,159
433
N/A
475
200
311
377
5
1 Reinsurance Market
Top 10 Global Reinsurers by total net written
reinsurance premium – 2006
Source: S&P Global RI Highlights ( Sept 2007)
2006
Ranking Company
1
2
3
4
5
6
7
8
9
10
Munich Re, Germany
Swiss Re, Switzerland
General Re/Berkshire Hathaway, US
Hannover Re, Germany
Lloyd's of London, UK
SCOR
RI Group of America
Everest Re
Partner Re
Transatlantic Holdings, US
2006 Net RI Premium
Written ($ MM's)
25,432
23,841
11,576
9,353
8,445
4,885
4,343
3,875
3,689
3,633
* Property & Casualty + Life Premiums
6
1 Reinsurance Market
Ratio of Reinsurer Loss & Underwriting Expense to Premiums
Written, 1985-2006
1.26
1.06
1.01
1.17
1.13
1.18
1.14
1.06
1.02
1.03
1.10
1.08
1.08
1.09
Katrina,
Rita, Wilma
0.95
1.0
Hurricane Andrew
1.07
1.1
1.06
1.10
1.2
Liability Crisis
1.07
1.3
1.21
Loss & LAE Ratio
1.4
1.07
1.5
Sept. 11
1.39
Despite the respite in 2006,
reinsurers paid an average of
$1.11 in loss and expense for
every $1 in written premium
since 1985
0.9
85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06
7
1 Reinsurance Market
S&P Financial Strength Rating Changes
Berkshire / General Re
Swiss Re
Chubb Re (Federal)
AXA Re
Everest Re
Hannover Re
Partner Re
Transatlantic Re
XL Re
ACE Tempest Re
W.R. Berkley
Munich Re / American Re
Renaissance Re
Aspen Re
Axis Specialty
Employers Re / GE Re
IPC Holdings
Lloyd’s
Endurance Re
Montpelier Re
PXRE
SCOR
Alea
Converium Re
AAA
X
AA+
AA
AA-
A+
A
A-
BBB+
X
X
X
X
X
X
X
X
X
X
X
Watch / Outlook
Stable
Watch - Negative
Stable
Positive
Stable
Negative
Stable
Stable
Stable
Stable
Stable
Stable
X
X
X
X
X
X
X
X
X
X
X
X
Stable
Negative
Stable
Watch - Positive
Negative
Stable
Positive
Negative
Stable
Stable
Stable
Stable
This chart was created by Gen Re solely for its use and that of its clients and should not be reproduced or distributed further
Source: standardandpoors.com
Ratings as of January 2006
8
1 Reinsurance Market
Development of Corporate Capital at Lloyd’s
PricewaterhouseCoopers Review 2002, updated 2005
90
80
70
60
50
40
Individual
Corporate & other
30
20
10
0
19
94
19
95
19
96
19
97
19
98
19
99
20
00
20
01
20
02
20
03
20
04
% of Lloyd’s capacity
100
9
1 Reinsurance Market
Suppliers of Lloyd’s Capital (2005)
PricewaterhouseCoopers Review, 2002 updated
Lloyds Annual Review, 2005
7%
14%
Non-insurance industry
11%
US insurance industry
Bermudian insurance industry
17%
Other insurance industry
34%
Names' conversion capital
Names (unlimited)
17%
62 Syndicates
1625 “Names” (Individual)
10
2 Basic Principles of Reinsurance
WHAT IS “REINSURANCE ?”
• A way to spread risk
• A contract of indemnity between an Insurer and a Reinsurer
• Original Insured - no contractual right or privity
• Contract between two informed parties
• Always transfer of risk
11
2 Basic Principles of Reinsurance
Major Types of Reinsurance
Facultative and Treaty
Facultative
• separate reinsurance contract
negotiated on each risk
FACULTATIVE
HYBRID
TREATY
• No obligation on either party’s
behalf to place or accept the risk
Treaty
• certain group or class of
business reinsured under a
single contract
• Obligatory nature – if it “fits” the
contract it must be ceded, and
accepted.
Pro Rata
Quota
Share
Excess of Loss
Surplus
Share
Per Risk
Excess of Loss
Per
Risk
Per
Occurrence
Aggregate
Excess of Loss
Per Risk
Aggregate Excess of Loss
12
2 Basic Principles of Reinsurance
Reasons to Buy Treaty Reinsurance
• Spread of risk
• Stabilization of underwriting results
• Catastrophe relief
(one occurrence affecting multiple policies, i.e., Hurricane Andrew)
• Underwriting assistance
• Premium capacity
• Ease of use
13
2 Basic Principles of Reinsurance
Reasons to Buy Fac Reinsurance
• Large line capacity
• Treaty-excluded business
• Treaty protection
• Accommodation for a good agent or insured
• Catastrophe (a large loss affects one policy versus five)
• Underwriting expertise
• Flexibility
14
2 Basic Principles of Reinsurance
Major Types of Reinsurance
Pro Rata and Excess of Loss
Pro Rata
• also known as Proportional
reinsurance
FACULTATIVE
HYBRID
TREATY
• insurance amount, premium and
losses under a primary contract
are shared between the ceding
company and the reinsurer in an
agreed proportion
Pro Rata
Excess of Loss
Excess of Loss
• also known as NonProportional
reinsurance
• reinsurer agrees to indemnify the
ceding company for losses that
exceed a specified retention up
to an agreed-upon limit
Quota
Share
Surplus
Share
Per Risk
Excess of Loss
Per
Risk
Per
Occurrence
Aggregate
Excess of Loss
Per Risk
Aggregate Excess of Loss
15
2 Basic Principles of Reinsurance
Pro Rata and Excess of Loss
Non-Proportional or Excess
of Loss Reinsurance
Cession
Proportional or shared
Reinsurance
Retention
Cession
(% or Line)
Retention
16
2 Basic Principles of Reinsurance
Pro Rata Reinsurance (Proportional)
Pro Rata
• How It Works
• Three Types of Pro Rata Reinsurance
Quota Share
Reinsurer
Participation
40%
Company
Participation
60%
– Quota Share
– Surplus Share
– Contributing Excess
17
2 Basic Principles of Reinsurance
Pro Rata Reinsurance (Proportional)
• Retention expressed in $$.
• Often referred to as a “line.”
• Insurer retains 100% of risks up to
Reinsurer
Participation
75%
Company Participation
25%
Surplus Share
the $$ amount of their “line.”
• Cede all amounts in excess of that.
18
2 Basic Principles of Reinsurance
Excess of Loss (XOL or Non-Proportional)
• The reinsurer promises to reimburse the ceding
company for losses that exceed the ceding
company's retention
Reinsurer
Participation
• The reinsurer reimburses the ceding company up to
the reinsurance limit stipulated in the reinsurance
contract
• In return for this promise, the reinsurer charges the
ceding company a premium
Company
Participation
19
2 Basic Principles of Reinsurance
Excess of Loss
Reducing the volatility. How does that work?
Jumbo Losses: Rare, random, and
virtually unpredictable.; usually
relatively few exposures in portfolio
Medium Losses: Some years more,
some years less; can afford cost over
time but need smoothing
Small Losses: Large # of relatively
predictable losses; very manageable
with right tools
Ideal is to keep the predictable and cede the volatile / unpredictable.
20
2 Basic Principles of Reinsurance
Excess of Loss – marine pyramid view of a risk
Total Loss
Fire/Lightning/Explosion
Machinery damage/small fire
Theft/small fire/shortage
21
2 Basic Principles of Reinsurance
Excess of Loss - Layering
Often non proportional
reinsurance coverage is layered,
whereby the deductible of one
layer is the sum of deductible and
limit of liability of the underlying
layer
8
7
6
2. XL: 3 mio xs 4 mio
5
4
3
1. XL: 2 mio xs 2 mio
2
1
deductible
0
22
2 Basic Principles of Reinsurance
Excess of Loss – Layering - reasons
• it is easier to place liabilities in smaller amounts
• some smaller reinsurers specialise in particular levels of cover
– lower/“working” layers, or
– higher/“catastrophe” layers (“sleep easy”)
• the nature and extent of risk is different at different levels of cover
23
2 Basic Principles of Reinsurance
Excess of Loss – layering - reasons
• layering therefore allows more accurate assessment of the appropriate
XL premium
• inclusions/ exclusions of specific classes (e.g. CXL treaties covering
PA, WC/EL, MTPL, MOD etc)
• different conditions for several layers
– scope of protection
– annual aggregate limits
– reinstatements
24
2 Basic Principles of Reinsurance
Excess of Loss - reinstatements
• The limit of liability can be provided more than once e.g. 3
reinstatements for a risk layer and 1 for a cat layer
• There is a maximum annual limit equal to the limit of liability plus the
limit multiplied by the number of reinstatements
• The reinstatement functions automatically when the original limit of
liability or any part thereof is consumed by a loss
• An additional premium is often charged for this reinstatement
25
2 Basic Principles of Reinsurance
Excess of Loss – basis of coverage
• The basis of coverage is specified in the contract and determines
which losses the reinsurer is liable for:
-
Losses occurring during the reinsurance year
-
Risk attaching, i.e. losses arising under policies
issued or renewed during the reinsurance year.
26
2 Basic Principles of Reinsurance
Excess of Loss – basis of coverage
Loss date 8.1.2000
original policy period: 1.4.99 - 31.3.2000
x
1999
2000
• Losses occurring basis: all reinsurers involved from 1.1.2000 to
31.12.2000 are liable
• Risk Attaching basis: all reinsurers involved from 1.1.99 to 31.12.99
are liable
27
2 Basic Principles of Reinsurance
EXCESS OF LOSS vs PRO RATA REINSURANCE
Loss Treatment Comparison
Pro Rata
Excess
Reinsurer
Participation
Reinsurer
Company
Participation Participation
40%
60%
Reinsurer
Participation
75%
Company Participation
25%
Limit
$5M
Company Retention
$ 250,000
Excess of Loss
Quota Share
Surplus Share
(3 Lines Retention)
28
2 Basic Principles of Reinsurance
EXCESS OF LOSS vs PRO RATA REINSURANCE
Loss Treatment Comparison
Pro Rata
Excess
Reinsurer
Company
Participation Participation
40%
60%
Reinsurer
Participation
75%
Loss
$2M
Reinsurer
$1,750,000
$800,000 $1,200,000
$1,500,000
$500,000
Reinsurer
Participation
Company Participation
25%
Limit
$5M
Company
CompanyParticipation
Retention
$250,000
Excess of Loss
Quota Share
Surplus Share
(3 Lines Cession)
29
3 Issue’s and Trends
• Catastrophes
• Security (Basel II)
• Securitization
30
3 Issue’s and Trends
U.S. Insured - Catastrophe Losses ($ Billions)
$100
$56.8
$27.5
$4.6
00
$12.9
$8.3
99
$26.5
$10.1
$2.6
97
98
$7.4
96
$4.7
91
$8.3
$2.7
90
95
$7.5
89
$40
$16.9
$60
$5.5
$80
$22.9
2005 was by far the worst
year ever for insured
catastrophe losses in the US,
but the worst has yet to come.
$100
$5.9
$120
$20
$100 Billion
CAT year is
coming soon
$ Billions
20??
05
04
03
02
01
94
93
92
$0
Excludes $4B-$6b offshore energy losses from Hurricanes Katrina & Rita.
Note: 2001 figure includes $20.3B for 9/11 losses reported through 12/31/01. Includes only business and personal property claims,
business interruption and auto claims. Non-prop/BI losses = $12.2B.
Source: Property Claims Service/ISO; Insurance Information Institute
31
3 Issue’s and Trends
Share of Losses Paid by Reinsurers, by Disaster
70%
60%
50%
40%
30%
Reinsurance is playing
an increasingly
important role in the
financing of megaCATs; Reins. Costs are
skyrocketing
30%
25%
60%
45%
20%
20%
10%
0%
Hurricane Hugo
(1989)
Hurricane Andrew
(1992)
Sept. 11 Terror
Attack (2001)
2004 Hurricane
Losses
2005 Hurricane
Losses
32
3 Issue’s and Trends
S&P Financial Strength Rating Changes
Berkshire / General Re
Swiss Re
Chubb Re (Federal)
AXA Re
Everest Re
Hannover Re
Partner Re
Transatlantic Re
XL Re
ACE Tempest Re
W.R. Berkley
Munich Re / American Re
Renaissance Re
Aspen Re
Axis Specialty
Employers Re / GE Re
IPC Holdings
Lloyd’s
Endurance Re
Montpelier Re
PXRE
SCOR
Alea
Converium Re
AAA
X
AA+
AA
AA-
A+
A
A-
BBB+
X
X
X
X
X
X
X
X
X
X
X
X
X
X
X
X
X
X
X
X
X
X
X
Watch / Outlook
Stable
Watch - Negative
Stable
Positive
Stable
Negative
Stable
Stable
Stable
Stable
Stable
Stable
Stable
Negative
Stable
Watch - Positive
Negative
Stable
Positive
Negative
Stable
Stable
Stable
Stable
This chart was created by Gen Re solely for its use and that of its clients and should not be reproduced or distributed further
Source: standardandpoors.com
Ratings as of January 2006
33
3 Issue’s and Trends
Distribution of Capital Requirements
A&E Risk
9%
Asset Risk
8%
Core Reserve
Risk
32%
Reinsurance
Risk
24%
CAT Risk
7%
New Business
Risk
19%
Source: Moody’s Special Comment, Growing Reinsurance Risk Weighs on P & C Insurance Market Recovery, August 2003
34
3 Issue’s and Trends
Increased Reinsurance Leverage
Reinsurance Recoverables as % Industry Surplus
85%
80%
75%
70%
65%
60%
55%
50%
45%
40%
1998
1999
2000
2001
2002
Source: Moody’s Special Comment, Growing Reinsurance Risk Weighs on P & C Insurance Market Recovery, August 2003
35
3 Issue’s and Trends
Moody’s
“In the aftermath of a prolonged soft
market for property and casualty
insurance, the exposure of primary
insurers to counterparty risk on
reinsurance assets has become a key
credit risk for the industry. Insurers that
once gorged themselves at the trough of
cheap reinsurance are finding their meal
was anything but a free lunch. The
ultimate tab has yet to be determined,
but could well be much higher than
insurers bargained for.”
36
3 Issue’s and Trends
Moody’s
“ In the face of these emerging concerns over reinsurance
exposure, Moody’s is increasing analytic attention on
reinsurance risk in our evaluation of ceding insurance
firms, most notably in the context of assessing capital
adequacy.”
Source: Moody’s Special Comment, Growing Reinsurance Risk Weighs on P & C Insurance Market Recovery, August 2003
37
3 Issue’s and Trends
Securitization: Or, why would an Insurer Securitize ?
•
Alternative to catastrophe reinsurance
– Non-existent (reinsurance of last resort)
– Scarce
– Expensive
•
Multi-year nature
•
Collateralized : minimal / no credit risk
•
May seek no payback – “winner” takes all
• Access to Capital markets
•
Motivated (intermediaries) determined to make a market
38
3 Issue’s and Trends
Securitization – what is it?
Two Common Examples
• CAT Bonds (Ins. Linked Securities )
– Converts Ins risk to Securities form (capital market)
• Indemnity based - parallels reinsurance
• Indexed : (Industry L/R or Total Loss $$) = easier investor evaluation
• Parametric loss = f (event magnitude, location)
– EQ of magnitude 7.5 in California…
– Windstorm w/ sustained windspeed of XX kph in …
• Sidecars
– Proportional structure
39
3 Issue’s and Trends
CAT Bonds (ILS)
• Sponsor – Insurer / Reinsurer* / Corporation
• Issuer –
– Bankruptcy remote Special Purpose Vehicle
– R/I contract w/ Issuer
– Issues CAT bonds & places proceeds in collateral account
• Swap Counterparty – swaps investment returns to a LIBOR based rate.
• Investors
– Receive coupons (interest pmt) quarterly
– No “event” = receive principal @maturity
– “Event” = receive any remaining principal @ maturity
40
3 Issue’s and Trends
SIDECARS
• Capital market backing
• Little / no infrastructure – easy to dismantle
• Rely on other R/I’s to “manage” business
• Quota Share structure (proportional)
• Capital relief
• “Flexibility”
41
4 Pricing in the Future
Global Marine Premium 1999-2005 (US$ Million), as reported
20000
18000
16000
14000
12000
10000
8000
6000
4000
2000
0
1999
2000
2001
2002
2003
2004
2005
Accounting Year
Global Hull
Cargo
Liability
Energy
Total
42
89
90
91
92
93
94
95
96
92.5
119.4
115.7
106.0
102.0
102.0
110.4
105.9
115.5
108.0
107.2
110.1
102.6
115.8
100.0
107.5
104.1
100.1
97.2
98.4
118.4
100.8
98.8
106.4
109.5
106.9
107.9
108.4
108.8
Combined Ratio:
89.6
92.4
97.3
114.2
109.2
118.2
109.6
4 Pricing in the Future
Ocean Marine vs. All Lines
Ocean Marine
97
98
99
00
01
02
03
All Lines
130
04
05
125
120
115
110
105
100
95
90
85
80
06*
43
4 Pricing in the Future
Profitability Peaks & Troughs in the P/C Insurance Industry, 1975 –
2008F
25%
20%
15%
10%
5%
0%
75
76
77
78
79
80
81
82
83
84
85
86
87
88
89
90
91
92
93
94
95
96
97
98
99
00
01
02
03
04
05
06
07F
08F
-5%
44
4 Pricing in the Future
Effects of pricing Strategy
• Scenario 1
Scenario 2
•
(no reduction)
(10% reduction)
•
POPeye the Sailor man
Des Arster ex Ocean Marine Underwriter 2004
• -------------------------------------------------------------------
---------------------------------------------------------------
• NWP
US$23m
NWP
US$20.7m
• Expenses
US$6m
Expenses
US$6m
• Expected Losses
US$13m
Expected Losses
US$13m
• Expected Profit
US$4m (83% CR)
Expected Profit
US$1.7m (92% CR)
• Result
• A 10% decrease in rates results in a 57% decrease ( diff between $1.7 & $4m) in expected
• profit.
45
4 Pricing in the Future
Effects of pricing Strategy
• Scenario 3
Scenario 4
•
•
(Hold rate but losses 24% of business due to price)
-----------------------------------------------------------------------
(Hold rate but lose 10% of business due to price)
-----------------------------------------------------------------------
• NWP
US$20.7m
NWP
US$17.5m
• Expenses
US$6m
Expenses
US$6m
• Expected Losses
US$11.7m
Expected Losses
US$9.9m
• Expected Profit
US$3m (85.5% CLR)
Expected Profit
US$2m (90% CLR)
• Result
• Better to lose 10% of your book and keep rates the same than to discount your book by 10%.
• Would need to lose 24% of your book to match the expected profit from a 10% decrease in rate.
46
4 Pricing in the Future
Burning Cost versus Exposure
BURNING COST
An estimate of the future loss cost based on the experience
of solely one account.
How it’s used
Premium = Total claims over period divided by period = average loss
cost + profit + expenses.
Problem = net/gross/claims paid/outstanding/IBNR ?
Pricing error = Ignoring similar account large losses (one account is
too small a basis) .
47
4 Pricing in the Future
Burning Cost versus Exposure
Original Insured: Costa Lot Fleet. 5 bulkers, youngest 2001, oldest
1980.
Year
Premium
Claims
L/R
2001
300,000
200,000
67%
2002
250,000
300,000
120%
2003
310,000
250,000
81%
Total
660,000
750,000
114%
Renewal premium = Total claims 750,000 divided by 3 = ALC 250,000
250,000 + 35% (profit 15%, expenses 20%) = 337,500.
Therefore renewal premium = 337,500
48
4 Pricing in the Future
Burning Cost versus Exposure
EXPOSURE RATING 1
An estimate of the future loss costs based on the experience from a
large group of similar risks.
How it’s used
Statistical claims data over a “book” of similar risks+profit+expenses =
rate.
Problem = Selection error;
Hull - vessel type, flag, large enough group.
49
4 Pricing in the Future
Burning Cost versus Exposure
Original Insured: Costa Lot Fleet. 5 bulkers, youngest 2001, oldest 1980.
2001 bulker, value 20,000,000 statistical (exposure) rate = 0.2% Prem. =
40,000
2000 bulker, value 17,500,000 statistical (exposure) rate = 0.222% Prem. =
38,850
1995 bulker, value 15,000,000 statistical (exposure) rate = 0.35% Prem. =
52,500
1985 bulker value 10,000,000 statistical (exposure) rate = 0.85%
85,000
Prem. =
1980 bulker, value 5,0000,000 statistical (exposure) rate = 1.25% Prem. =
62,500
Total loss cost = 278,850 + 35% = 376,447.
50
4 Pricing in the Future
Burning Cost versus Exposure
EXPOSURE RATING 2
An estimate of future loss cost based upon the estimation of
volatility of layers without claims experience.
Cost of capital.
Expenses.
Volatility charge when possibility of portfolio destabilization due to
higher layer exposure.
51
4 Pricing in the Future
Burning Cost versus Exposure
* Both methods have there place.
* The “Exposure” approach is far better suited to large, volatile risks.
* The exposure method better suited on risks of which underwriter has little or no
experience - new/no claims data.
* Using the burning cost method to fine tune an exposure rate risk, can aid the
individual risk assessment and pricing.
52
And Finally……
It is a difficult business but not a complicated one…
“Unlike the situation prevailing in many other industries – neither size nor brand
name determines an insurer’s profitability. Indeed, many of the biggest and
best–known companies regularly deliver mediocre results. What counts in this
business is underwriting discipline”.
Warren E. Buffet
Berkshire Hathaway
2001 Letter to Shareholders
53