Insureds’ direct access to capital market will continue to rise, says expert

Corporate risk is increasingly being transferred directly to the capital markets, with the trend set to accelerate and deliver yet more options for insureds, according to Grant Maxwell, regional unit London head of alternative risk transfer (ART) at Allianz Global Corporate & Specialty (AGCS). “We see a clear trend towards direct access to the primary market, ie alternative capital getting closer to the risk and not having multiple steps in the chain. We definitely think this trend will continue. Linking alternative capital directly to insureds’ risk is increasingly going to happen,” Mr Maxwell told Commercial Risk Europe. He explained that ART has linked alternative capital to the primary market via whole books of business, particularly US nat cat risk. But more recently, and perhaps interestingly for readers of CRE, the unit has transferred tailored, specific cover to the capital markets for individual clients. “What we are doing now, and seeing more interest in, is either sourcing specific risks for hedge funds or actually being able to add alternative capital to a front-end product as part of the solution. So now we can combine the alternative capital with our traditional risk retention within AGCS. On several occasions, we have used alternative capital to transfer a specific part of a company’s risk directly to the capital markets,” said Mr Maxwell. He believes this type of transaction will grow because capital market interest in risk transfer business continues to mount and needs to find a home. Meanwhile, traditional cat bonds become less appealing. “The ILS market keeps growing, by around 12% per annum for the last ten years or more. The heavy 2017 losses validated the market rather than slowing it down. So, assets under management and therefore appetite for risk are growing strongly. If you just stick to cat bonds there isn’t enough risk to go around. Whether it is cause or effect, reinsurance and insurance rates have been coming down and so cat bonds, and even collateralised reinsurance, make less economic sense. Therefore, direct access to corporate risk will increase,” said Mr Maxwell. So far, the largest insurance buyers have benefited from tailored, direct capital market access simply because it makes more economic sense for the providers. But Mr Maxwell believes smaller buyers will enjoy this option in the future. “If you have an individual investor investing in an individual risk, it would have to be the biggest risks to make sense. But if you think about a fund having the freedom to access a number of risks, I think it could work for smaller buyers if we can transform this sort of solution into a more standardised process or product,” he argued. The focus of alternative capital remains nat cat, weather-related and life risks, but Mr Maxwell believes it will soon turn to the wider risk landscape. “Non-standard risks will be next. People are talking about cyber, terror and some other risks. Because the ILS funds are growing and [are] an efficient source of capital, I think we will see additional risks being transferred. It is about being able to model the risk, define the events and quantify the losses. Those things will come for more risks,” he said. Mr Maxwell explained that structured insurance solutions are the biggest area of interest among clients of ART in both Europe and North America. This approach takes traditional insurance and tailors it to better meet buyers’ needs. Currently there is much demand for cross-class and multiyear solutions, said Mr Maxwell. Customers also want help when their loss history or risk appetite changes, or the market for one of their risks has shrunk, he added. “ART has always been active in this structured space but what we are seeing now is even more interest from clients and brokers. Plus, I think we are doing a better job of bringing together the best of AGCS to really offer a full package of cover to tailor that solution. We can tailor that around a captive or not, and build in things like captive fronting,” Mr Maxwell explained. Evergreen policies are one area that buyers seem keen to explore, given the sheer amount of time spent on the annual renewal. Mr Maxwell said he sees demand for such solutions and believes they make sense. AGCS currently offers long-term, multiyear agreements and is looking to extend their scope. Mr Maxwell said structures that enable these covers to work could be used to deliver true evergreen solutions. “The key is to be able to design a process that takes into account changes in risk in real time. We have mechanisms for doing that in multiyear structured covers that take into account exposure changes. They take many different forms and are going to have to be a key part of any evergreen policy. But the key principle of evergreen policies definitely makes sense. You need to build in mechanisms that account for changes but the policy still has commitment from both sides for a long-term approach. Data is much more readily available today so this data and technology, such as blockchain will enable this type of policy to happen,” he said. Mr Maxwell is based in London and believes the UK capital will succeed as an ILS centre, but said it will take time for things to fully develop. Currently there is more interest in the London ILS market than action, and the key to success will be efficiency, he added. “There is a lot of interest and it is a worthwhile step. London has all the key ingredients. It has fantastic access to risk, sophisticated buyers, insurers, lawyers, advisers, investment banks and investors,” began Mr Maxwell. He said cat bonds alone will not drive the growth, partly because they are expensive and complicated to put together. As a result, there is a trend towards more flexible and less costly forms of transfer such as collateralised reinsurance. Recently, Mr Maxwell has seen people looking to set up blockchain platforms to trade reinsurance contracts or create cat bond-lite structures that are much easier to put together. He believes London has the potential to be part of that development going forward. “The key is to be efficient. At the moment, there is a lot of interest and things are happening, but it will take time to really develop. I have heard it is still slower to get something approved in London than Bermuda, for example. So, there is a little way to go but London has all the ingredients and now the right regulatory and tax environment to encourage growth. I see it working overtime,” Mr Maxwell said. The Organisation for Economic Co-operation and Development (OECD) Base Erosion and Profit Shifting (BEPS) initiative formed part of efforts to stamp out tax avoidance strategies that exploit gaps and mismatches in tax rules by artificially shifting profits to low-tax or no-tax locations. More than 100 countries and jurisdictions have implemented BEPS measures. BEPS specifically mentioned captives, which prompted many to questions whether the tools would continue to be viable. According to Mr Maxwell, BEPS has reduced the number of captives but they remain a popular and perfectly valid risk financing tool. “You just need to make sure the captive is structured correctly, the risks are priced correctly and that the business case makes sense. We have seen some clients restructure captives because of BEPS and in some cases they have closed down captives, but that is definitely not the majority. I think companies just need to look at captives completely transparently,” he said.

Insureds’ direct access to capital market will continue to rise, says expert

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