This article is based on Mr Enoizi’s speech at Insurance Linked Securities: the New Opportunities, a one-day conference held in London on 5 December.
New UK legislation for ILS opens an opportunity for all of us to work creatively together to solve the emerging risk issues which challenge our industry and wider society. Collaboration between the state, insurers, academia, and the capital markets as well as other parties, can make significant steps forward under the new rules.
The prospect of crafting and issuing a terrorism bond is of particular interest to Pool Re, but we as an industry need not stop there. Through collaboration under the new rules, we may be able to design new kinds of coverage which create opportunities for the insurance market while removing liability from the government’s balance sheet, and thus from the taxpayer.
Terrorism is, of course, Pool Re’s sole focus, and the terrorism landscape has evolved. The nature of targets has changed, digital threats have moved squarely into the frame, and motivations have shifted from nationalist to fundamentalist. The insurance market’s appetite for terrorism risk has also evolved, but Pol Re is still necessary to provide reinsurance for those risks, such as CNBR, that the private market cannot or will not insure. The terrorism insurance gap now is larger than ever, and it continues to increase.
When Pool Re was formed, terrorism risks were widely considered uninsurable. However, the private insurance market has gradually entered the class by dint of retentions and retrocession. Pool Re has paid multiple claims and accumulated an £8 billion reserve, but has never had to draw on its government guarantee.
Analysis has also evolved, permitting better risk assessment and modelling, and even greater private-sector participation in terrorism risk transfer. That analytical know-how, alongside collaboration between state and market, has allowed both to be appropriately remunerated for the terrorism risks they are running. ILS should be embraced as a logical next step.
We have showed that commercial reinsurers have a notable appetite for terrorism risk. Our cessions to them underpin our role as a facilitator of markets until such time as the private sector can take them over completely. In the meantime, however, we face the fact that commercial appetite for terrorism risk is limited. For some branches of the risk, it is non-existent. An ILS terrorism bond may be the appropriate tool to draw in new risk capital which will supplement the available private reinsurance, and further remove taxpayers from potential losses.
Questions remain. How much capacity could the capital markets make available, and at what price? What would constitute an acceptable trigger for a terrorism risk bond? Pool Re is already looking into what might be possible, and as a public/private partner, we are actively supporting the development of such instruments. Pool Re’s current focus on property damage lends itself to a bond, which to be meaningful would have to provide a coverage layer of at least £100 million.
To date, bonds have focussed on natural catastrophe risks which can be modelled. Terrorism, however, is unpredictable due to the human element. Models are not yet sufficiently credible to support a bond issue, which makes pricing a real challenge.Investment in expert analysis and partnerships with academia are helping us to understand the risk better, and to model it more reliably. It is critical to realise the shortcomings of whatever models are produced, but this difficulty does not negate the potential for a terrorism bond. We simply have to think creatively.
A creative ILS market, one which is nimble and responsive, may be able to underwrite broader solutions. Could a bond, for example, cover the cyber-terror threat? Could structures be developed to solve insurability challenges in other emerging or problematic areas of risk where liability rests implicitly or explicitly with the government, such as the civil injuries and compensation scheme or strike riot and civil commotiont? Innovative collaboration will be essential to the fruitful exploration of such questions.
Public/private partnership is one way of incubating collaboration between parties, of building resilience, and of protecting taxpayers. It can enable market development, protect the economy, and promote mitigating behaviour in end customers. It fosters better, broader understanding of risks. Such a collaboration led to Pool Re, which proves that what once seemed innovative and even unworkable – like catastrophe bonds themselves – can over time become conventional.
Progress will demand a favourable political climate, and I believe the new ILS regulations show it exists. It will demand an insurance market with sufficient embedded creativity, and I think few would deny that London has it. Finally, it demands a strategic view, rather than an opportunistic approach. We must produce products that meet today’s customer demands.
ILS should encourage us to consider new ways to structure government insurance backstops that remove risks from the public balance sheet. If we lead the way, we will realise not only these valuable benefits, but we will also create a commercial opportunity. Pool Re is one of 16 pools around the world considering these issues. If we can show the way, it could prove a great export opportunity for our industry, and a genuine source of beneficial progress for the world.