November 14th - 17th, 1999
Hyatt Regency Miami, Florida

Capital Markets vs. Reinsurance

John Berger, CEO, Chubb Re
John Kiernan, SVP, Lehman Re
Moderator: D. Hugh Rosenbaum, Principal, Tillinghast-Towers Perrin

Monday, November 15th, 3:45 - 5:00 p.m.
 

"Reinsurers and Capital-Markets Providers Make Wary Neighbors"

Reinsurance and capital-market advocates may be stepping further into each other's turf but fundamental differences remain, representatives from both fields agreed at a conference exploring alternative forms of insurance.

John Berger, the president and chief executive of Chubb Re, Bernardsville, N.J., said capital-market transactions such as catastrophe bonds and securitizations are capturing headlines but may not be as grounded in certainty as they first appear.

At heart, offering reinsurance is not unlike running a casino, Berger said. Reinsurers and insurers have to understand the odds, accept only independent exposures and limit the biggest bets or exposures.

Investment bankers are developing sophisticated investment products that cover the highest levels of risk, but those products fall short in some areas. The prospectuses are complex, the offerings haven't been tested by losses and assessing risk remains at best an educated guess, not a certainty.

Berger recently reviewed a proposal with 15 pages of complex equations that aimed to quantify the exact exposures. "We're getting ahead of ourselves in thinking that we know what the true odds are," he said.

Investors may also be put off by the complexity and legalese of many risk-based securitization products or catastrophe bonds, and they will likely become litigious in the event of a loss. "In reinsurance, you get a handshake and a placement slip," Berger said.

Berger also said his company is willing to participate in capital-market offerings, adding that even high-frequency, low-severity categories such as auto coverage are a natural for securitization. But the best reinsurers have more latitude on price, customization and service, he said. "The thing we do really well is respond after a natural catastrophe."

David Govrin of Goldman, Sachs and Co.'s risk management group said more than $2 billion in insurance risk was securitized in 1998, the most ever, and that 1999 is on track for another strong year. That market began in earnest in 1995, he said.

Govrin argued that it's not the probability of an event occurring that is the chief selling point for capital-market solutions, but the volatility that a huge catastrophe would create. A $70 billion hurricane in South Florida would wipe out one-quarter to one-fifth of the insurance industry's $300 billion to $350 billion in capital, but would only be a ripple in the capital markets, which total more than $20 trillion, with daily volatility of $100 billion. "Who is best suited to take on the volatility?" he asked.

While it's difficult to secure or rewrite traditional reinsurance coverage in the event of a looming catastrophe, securitized risk products have proved they can remain liquid. "We were trading throughout Hurricane Floyd," Govrin said. "As Hurricane Floyd got within 100 miles of the coast, we still had liquidity."

So far, securitized risk offerings have found their largest market in hedge funds and mutual funds, which purchased more than half of the available offerings. Life insurers and reinsurers have accounted for about 15% each, he said.

Berger and Govrin spoke at the Ninth World Captive and Alternative Risk Financing Forum, held in Miami.