The hard market is driving interest in captive insurance but Covid-19 is both providing an opportunity and causing problems for self-insurance.
The hardening commercial insurance market has triggered huge interest in existing and new captives, according to Rob Geraghty of Marsh Captive Solutions. “We have been phenomenally busy. We are seeing new formations across the board while companies are looking to optimise existing captives,” he said.
The Covid-19 pandemic has accelerated market hardening and the shift to captives, explained Mr Geraghty. “The reaction of the insurance market to coronavirus has caused companies to make faster decisions on forming a captive or retaining more,” he told Commercial Risk Europe.
According to Mr Geraghty, captives will take a leading role in 2021 renewals and give insurance buyers a stronger hand when it comes to negotiations with insurers. “Captives will be at the forefront of renewals, giving buyers a stronger negotiating position. If they believe their risk is good and they do not get a reasonable deal from the market, risk managers will be in a position to take a larger retention in the captive. They will be at the core of companies’ risk transfer and risk management strategies,” he said.
Companies are already retaining more risk in the hard market, which, according to Marsh, has seen global property rates increase 19% in the second quarter alone (see story on page 8). According to Mr Geraghty, some Marsh captive customers have increased property premium in their captives by 50% or more this year. Captives have also increased premiums in other lines that have experienced rate hikes, such as D&O and professional indemnity. The number of captives writing D&O has increased 25%, according to Marsh.
Companies can maximise captives and take on more risk, especially where there is a healthy surplus, explained Mr Geraghty. “I expect we will see higher retentions and more lines of business being written by captives next year,” he said.
A growing number of captives are writing new lines of business. The number of captives writing cyber, for example, has doubled, while those writing trade credit insurance has increased 30%, according to Marsh.
The growing interest in captives is not a short-term trend, said Marine Charbonnier, global programmes and captives regional director for Europe at AXA XL. “Last year, we saw a growing interest in captives.
This has accelerated in 2020 and I believe the trend is here to stay. Some parent companies that currently don’t have one are looking at setting up captives, while existing captive owners are looking to cover more and different types of risks through their captives,” she told CRE.
Ms Charbonnier explained that parent companies are turning to captives to reduce the effects of upward pricing in the traditional insurance market. By retaining more risk through a captive, they are able to access a level of capacity that carriers wouldn’t otherwise offer them, she said. The expert added that Covid-19 has led to yet more interest captives.
“The hardening market had already led to restrictions in the terms and conditions offered by traditional insurers and was driving the interest in captives. The impact of the Covid-19 pandemic is further increasing the hardening market and could therefore have compounding effects on the use of captives, which can also complement the coverage provided by the market,” she said.
Faced with a hardening insurance market, customers with captives are looking to exploit differences that exist between the insurance and reinsurance markets, according to Paul Wöhrmann, head of captives at Zurich. “We see three areas where there are opportunities to arbitrage in the reinsurance market: price, capacity and wordings,” he said.
More and more companies view their captives as a strategic vehicle to manage the insurance market cycle, explained Mr Wöhrmann. “Captives can be viewed as a strategic door opener to reinsurance and alternative capital markets when there is a shortage of capacity or an increase in rates. In current market conditions there is a greater opportunity to explore the reinsurance and alternative capital markets and access capacity. We have seen a growing interest from risk managers with captives to start a dialogue with insurance-linked securities providers,” he said.
The hardening market is also prompting a wider range of companies to explore captives. “Some companies that previously did not consider themselves to have the critical size to establish a captive now find this makes sense in a hard market. For example, where companies face a shortage of capacity or substantial retention levels, we see virtual captives being used to finance one or two short-tail lines of business,” said Mr Wöhrmann.
However, the Covid-19 pandemic has collided with the hardening insurance market and thrown up some challenges for captives going into 2021 renewals, according to Vincent Barrett, Aon’s regional managing director for EMEA and member of the broker’s captive and insurance management risk committee.
Aon has been working with its captive clients since the end of last year to prepare for tough renewals in January 2021 and beyond. But the coronavirus outbreak has accelerated the commercial insurance market hardening and significantly disrupted renewal strategies, he explained.
Covid-19 has meant hitting the “pause button” on renewal and captive plans, according to Mr Barrett. “Going into renewals, clearly businesses face a materially different year to the previous year. However, at this point, the understanding is not there yet and a lot of the required data is missing,” he said.
Articulating the impact of Covid-19 will be a challenge for renewals from both a commercial insurance and captive perspective, Mr Barrett told Commercial Risk Europe. “Companies need to assess the impact of Covid-19, their future resilience and how they engage with the insurance market. Resilience to future pandemics and other black swan events will be a top ten challenge for companies and their captives going forward,” he said.
Pandemic-related risks will be a discussion point for both captives and future renewals, according to Mr Barrett. Companies may face Covid-19-related risks in their operations but are likely to find they are excluded from property and casualty coverages, he said. They are also likely to find cover for future pandemics hard to come by, although the insurance market and governments could develop cover for infectious disease outbreaks over time, he added.
“Captives could have a role in covering coronavirus risks, such as plugging the gap from exclusions, but it will boil down to the data and underwriting support that allows the board to decide whether such exposures can be brought into the captive safely and within the risk appetite,” said Mr Barrett. Many captives are reliant on insurers for fronting and claims services, which may also be a limiting factor on the ability of captives to underwrite Covid-19-related risks, he added.
Government-backed pandemic solutions, which are currently being discussed in both Europe and the US, may offer a solution in the longer term. But such schemes are unlikely to be in place in time for the January 2021 renewal and will most likely exclude Covid-19 anyway. According to Mr Barrett, captives could be a natural way for companies to tap into pandemic pools, in much the same way as they have for terrorism cover under various state solutions.