The life retrocession industry is in a state of flux and as business volumes decline retrocessionaires are placing more emphasis on other product offerings in a bid to fuel future growth. By Michael Dekoning.
Individual life reinsurance has emerged as a high growth field, and following that trend has been the development of a healthy life retrocession market. Retrocession business has grown steadily over the last ten years, peaking in 1999, but has declined ever since. The amount of face value new policies retroceded dropped by 47% from 2000, and is almost 70% lower than the high reported in 1999, according to the Munich Re Survey of Life Reinsurance.
The slide in retrocession is largely attributable to the recent trend of consolidation of reinsurance companies and increase in retentions. The decline appears larger in the last two years, but this is a result of the large increase in the amount of term life sold in 2000 just prior to the introduction of new regulations on reserving requirements for guaranteed-rate business (known as regulation `Triple X') in the US.
The North American market
There are few players in the US retrocession market - just eight companies reported retrocession business in 2001 in the latest survey - and the largest of them have Canadian roots. In the 1970s, Manufacturers Life pioneered the Canadian incursion into the life retrocession market, initiating a change in the market landscape. The latest results indicate that the two largest players in the retrocession market are Manulife and Clarica, both of whom have Canadian parents. Manulife has been the retrocession leader for the industry going back to 1994, and retained the leadership position in the 2001 survey. Equitable Life Assurance Society, a subsidiary of AXA Financial, also competes in the life retro business in the US, taking the third spot in 2001. These three players write over 92% of the face amount retroceded in the US in 2001, up significantly from 70% in 2000.
Reinsurance of life business has a unique division of market: reinsurers rarely compete with retrocessionaires. The Munich Re survey shows that only a handful of players have had significant concentrations of both life reinsurance and retrocession, and even then, the number is limited to about three players per year. Often, reinsurers will write a one-off retrocession as an exception to their normal business practices, pledging to retain their reinsurance identity. Many reinsurers have moved away from providing retrocession capacity, choosing instead to focus their efforts on reinsurance business. The proportion of retro business written by reinsurers has been fairly insignificant, often less than 5% of the amount of reinsurance written.
Also significant is the reduction in the number of companies actively participating in the market. Consolidations have had a large affect on the industry, including Swiss Re's acquisition of the largest purely life reinsurer in the US, Lincoln Re. Many reinsurers have sought to increase their market share of life business to stabilise results from non-life portfolios. The increase in scale of some companies and more competition for reinsurance business has increased retentions and created downward pressure on life retrocession opportunities.
Impact of September 11
As with the property/casualty industry, terrorism has created challenges for the life business. The attacks of September 11 highlighted the exposure that life reinsurers and retrocessionaires have to aggregation risk. Few life reinsurers received significant aggregation data on their business, especially in group life insurance, bank - owned life insurance (BOLI) or corporate - owned life insurance (COLI). Aggregation is now recognised as a risk similar to catastrophe accumulation risk on property insurance, and, much like non-life business, companies are scrambling to improve data collection about this exposure. Lack of information has furthered the cause for significant price increases in catastrophe protection for life companies, and a variety of exclusions for terrorism, nuclear, biological and chemical risks have frustrated buyers. In addition, many providers of catastrophe reinsurance coverage have decided to exit the business, and the retrocession catastrophe market is virtually non-existent.
This has resulted in the current situation where many companies, especially those with group life, BOLI and COLI exposures, are threatened by future terrorist events. Better aggregation data may lead to the return of retrocession catastrophe coverage and lower prices on catastrophe reinsurance coverage. This will take some time, and in the interim the industry and governments need to work together on solutions that would avoid the widespread life insurance company failures that could result from future terrorist events.
Products, administration and distribution
For excess of retention business, annually increasing premium arrangements (known as yearly renewable term or YRT) are the norm for the individual life retrocession business; the same basic product structure used for life reinsurance. For quota share business, coinsurance is the most common form of structure. Most retrocessionaires also offer facultative services.
One of the biggest challenges of the retrocession market is administration of the business. The data required to monitor business is not always timely; after all, the reinsurer must collect data from the original ceding company, put it into its systems for analysis and reporting, and then send it on to the retrocessionaire, where it is put onto another data-monitoring system. Increased data handling creates more opportunity for unintentional reporting errors, but regular client audits and initiatives to clean up reported data can help identify and reduce problem areas.
Most retrocession arrangements are negotiated directly between the reinsurer and the retrocessionaire. Reinsurance intermediaries have made little headway into the life reinsurance market, although many seek to expand their capabilities in this field. Intermediaries have gained a foothold in some collateral lines of business written by life reinsurers, such as accident and health business which includes most life catastrophe covers. Given the knowledge of both the cedant (the reinsurer) and the assuming company (the retrocessionaire) as well as the fact that there is a limited number of players in the business, it is difficult to see where intermediaries could get involved in this market and add value to the process.
Several retrocessionaires seek other market niches in order to diversify their business, including accident reinsurance, financial reinsurance, and even some non-life reinsurance. Financial reinsurance has seen respectable growth despite the notoriety of a few transactions that have played a role in the economic difficulties of a handful of companies around the globe. Many financial reinsurance transactions enable more efficient use of capital, staying within the well-defined rules and regulations for statutory reporting. There is a very small number of high quality, knowledgeable players in the financial reinsurance market. Once again, the Canadian companies are very apparent in this market, and are equally likely to be found doing business in the Far East, Germany or the UK as in North America using combinations of onshore and offshore subsidiaries.
Other product initiatives are being undertaken to supplement and enhance the value provided by retrocessionaires. One market that has attracted interest is the UK annuity market, where companies seek coverage for longevity risks for annuity products. Many companies have benefited from mortality improvements in life business as people are living longer for a variety of reasons, including improved heath care treatments and changes in smoking habits. But this positive trend has negative impacts on the annuity industry, where longer life expectancy leads to higher payments by the insurer. The mortality improvements now create concern for annuity writers, and if life expectancies continue to improve, pricing pressures will mount. Reinsurance and retrocession seems well-suited to providing relief in this market through an expanded spread of risk.
The life retrocession industry is in a state of transition and evolution. While there are opportunities for more quota-share arrangements, pricing is very aggressive. In addition, financial reinsurance transactions are sometimes used in the place of traditional risk deals and reinsurers are looking more closely at cost structures and the bottom line. All of this comes at a time when overall retrocession volume is declining. The long-term nature of life retrocession treaties ensures that the in- force business will continue for quite some time, but retrocessionaires are hedging their bets with more emphasis on other product offerings to fuel their future growth.
By Michael Deckoning
Michael Deckoning FSA, FCIA, MAAA is vice president, Life and Financial Reinsurance, Manulife Reinsurance.