Global Reinsurance and Risk Appetite Report 2016 Table of Contents Foreword .........................................................................................................................................................................................................3 Adopting a Risk Appetite Statement .......................................................................................................................................................5 Linking Risk Appetite to Reinsurance .....................................................................................................................................................8 Focus on Earnings .......................................................................................................................................................................................11 Focus on Capital ..........................................................................................................................................................................................13 Key Takeaways.............................................................................................................................................................................................15 2 March 2016 Foreword In the last decade, our privileged position as reinsurance advisors has allowed us to observe the rising importance of risk appetite statements within insurance organisations. Throughout, we have been instrumental in linking these to clients’ reinsurance strategies. Whilst the insurance industry is saturated with data regarding losses, portfolio metrics and market dynamics, it became clear that there was a lack of information on risk appetite and how it influences the reinsurance decision making process. To fill this gap, in 2013 Willis Re launched the pilot Risk Appetite Survey in Europe, which gained great traction with clients across the continent and generated interest further afield. Building on this success, we conducted a new global survey in 2015, aimed at providing a worldwide perspective on risk appetite. With responses from over 240 insurers in nearly fifty countries, the importance of this theme in our industry is apparent. We are confident that the survey findings in the following report will provide an interesting insight into the trends we are observing and will help you better understand how your company’s position concerning risk appetite and reinsurance compares with others. We will also be glad to provide you with a more in-depth, customised analysis to further help you on this journey. Tony Melia CEO – Willis Re International 3 Global Reinsurance and Risk Appetite Report 2016 The Willis Re Risk Appetite Survey in Numbers 241 48 respondents from countries 77 35 70 59 APMETA LAC Europe Asia Pacific, Middle East, North America Latin America & Turkey, Africa Caribbean 41 49 47 20 Medium Large Small Very Large GWP between GWP between GWP under $100M GWP over $5B $100M and $500M $500M and $5B *84 chose not to disclose size 69 39 40 7 Privately Publicly Mutual State Owned Owned Owned *86 chose not to disclose ownership structure 4 March 2016 Adopting a Risk Appetite Statement Almost two-thirds of those surveyed have a formal risk appetite statement, with a 12% further 17% planning to develop one in the near future. 16% APMETA Geography 73% 73% of companies in APMETA along with 71% of companies in Europe have a risk appetite statement 14% These figures reduce to 54% for LAC and 51% for North America 14% Europe Whilst the use of a formal risk appetite statement is now widespread across the globe, the levels of adoption in 71% different regions are at varying stages. Companies based in APMETA (Asia Pacific, Middle East, Turkey, Africa) are most likely to have a risk appetite statement (73%). The percentage is similar across Europe, with 71% of 34% companies surveyed adopting a formal statement. North America 51% These figures can be explained by a combination of regulatory pressures (such as the implementation of Solvency II in Europe) and internal governance 15% standards, with stakeholders increasingly expecting companies to employ transparent and detailed risk 20% management frameworks. In contrast, the take-up rates in the Americas are 51% and LAC 54% for North America and LAC (Latin America and 54% Caribbean) respectively. Although these are lower than 26% in the other two regions, it is perhaps more telling that a further 15% and 26% of companies in these regions are planning on having a formal risk appetite statement in � Yes the near future; this increase would bring the total in line � No, but planning to with APMETA and Europe. Just as Solvency II has driven � No European companies to place a greater emphasis on risk management, the rolling out of Own Risk and Solvency Assessment (ORSA) requirements in the immediate future Figure 1: Risk appetite adoption by geography will no doubt have a similar effect on companies based in % of companies who responded to the question ‘Do you North America. have a formal risk appetite statement?’ split by region. In the above pie charts and in subsequent exhibits, the percentages shown may not sum to 100% due to rounding. 5 Global Reinsurance and Risk Appetite Report 2016 Again, this can be explained by a greater demand for Size internal governance as company size increases. Larger companies tend to have a more sophisticated Enterprise The larger the company, the more likely it is to have a risk Risk Management (ERM) framework in place which appetite statement ensures they formalise their risk management targets. All of the $5bn+ companies surveyed either have a Some of the respondents in this grouping may even be statement or plan to have one shortly deemed Systemically Important Financial Institutions (SIFIs), whose failure would impact the global economy. The risk management strategies of these companies will Whilst companies of all sizes are using risk appetite be under even greater scrutiny from external stakeholders. statements, there is a notable correlation between size of company and usage. Of the 20 very large companies in the survey (those who write $5bn or more premium annually), Ownership Structure 18 confirmed they have a risk appetite statement, with the remaining two suggesting they will develop one in the near Publicly held companies are most likely to have a risk future. 71% of large companies confirmed that they have appetite statement a statement compared with approximately 60% for the medium and smaller size respondents. Examining the ownership structure of respondents also reveals that publicly owned companies place greater Figure 2: Risk appetite adoption by size emphasis on the use of formal risk appetite statements % of companies who responded to the question when compared to privately owned (68%), mutual (55%) ‘Do you have a formal risk appetite statement?’ split by and state-owned (43%) companies. company Size Shareholders’ requirements for increased transparency 100% 10 10 around risk management practices might impose greater 21 22 pressure on these public companies compared with their peers. Yet a significant proportion of privately owned and 80% 18 mutual companies either have a risk appetite statement 19 20 or plan to adopt one in the short term, suggesting that regardless of structure companies are increasingly aware 60% of the value of a formal risk appetite statement. 90 Since the pilot survey in Europe in 2013, the influence 40% 71 of risk appetite within insurance companies has been 60 59 growing. For example if focusing on Europe, the number of companies having a risk appetite statement in place 20% has increased from 56% to 71%. Many companies may be driven into taking action by external forces; being under the regulatory spotlight with new regimes such as Solvency 0% II forces companies into change, as does pressure from Small Medium Large V. Large stakeholders for more clarity around performance targets. � Yes � No, but planning to � No That said, there is a growing consensus within the industry that strong risk management can lead to an alignment of interests at all levels within an organisation and ultimately lead to better decision making for the group. 6 March 2016 Application of Risk Appetite The presence of a risk appetite statement does not necessarily indicate it is being applied as part of a company’s strategic direction. Reinsurance is one of the most powerful risk management tools available and therefore the use of risk appetite within reinsurance decision-making is a good indicator of how influential these statements are within an organisation. 77 GGlloobbaall RReeiinnssuurraannccee aanndd RRiisskk AAppppeettiittee RReeppoorrtt 22001166 Linking Risk Appetite to Reinsurance The vast majority (87%) of companies with a at what level in the organisation is the risk appetite statement used to optimise reinsurance, with 61% of formal risk appetite statement use this to drive companies confirming that these decisions are being made their reinsurance decisions, with purchasing from a group perspective. 35%, a smaller but significant power increasingly moving to the centre. subset, use it at an operational unit level. Figure 3: Is risk appetite being used to influence Application and Influence reinsurance decisions? % of companies with a Risk Appetite statement who Companies are unanimously positive about their ability to responded to the question ‘Is your Group Risk appetite apply risk appetite to reinsurance, regardless of region, statement used to optimize reinsurance?’ split by region size or ownership structure Yes Not Yet No With 87% of respondents confirming that they do use APMETA 91.84% 6.12% 2.04% risk appetite to optimise their reinsurance, it is clear how Europe 82.61% 13.04% 4.35% reinsurance purchasing has evolved. Companies are North America 92.86% 0.00% 7.14% increasingly likely to evaluate the full economic impact LAC 75.00% 18.75% 6.25% of their reinsurance purchase, rather than making solely a price-based decision. Reinsurance buyers and brokers Worldwide 86.81% 9.72% 3.47% are dedicating more time and resource towards financial modelling tools which allow these parties to evaluate The observed patterns are indicative of how companies are reinsurance against predetermined Key Performance required to operate within an Enterprise Risk Management Indicators (KPIs). (ERM) framework. The enhanced scrutiny upon decision making favours a top-down approach with a robust The use of risk appetite in the reinsurance decision making application. A fundamental risk management decision process may indicate influence from stakeholders higher such as reinsurance purchase therefore has increased up the corporate structure. The survey asked respondents importance at the highest level of an organisation. Figure 4: How is risk appetite being used to influence reinsurance decisions by geography? % of companies who responded to the question ‘How is risk appetite used in reinsurance decisions?’ split by region 80% 69 60% 65 64 61 40% 43 44 35 32 31 20% 27 22 25 24 19 11 0% APMETA Europe North America LAC Worldwide � Group level � Operational level � Business level 8 March 2016 There are exceptions to this however. These trends Willis Re Case Study: aligning reinsurance are common across all geographic subsets except for with group risk appetite LAC where more respondents report that decisions are made at business level perspective rather than by group Company A made the decision to use a captive to (44% vs. 19%). This may be driven by the fact that there internally manage risk and to purchase reinsurance are a greater number of independent local offices in this centrally on behalf of the group. Their goals were: region amongst the respondents, which may prefer making � Use their scale and ability to diversify risk internally decisions at a business level. to retain more profit When investigating who within the organisation is involved � Have the ability to manage total retained risk in line in the final reinsurance purchasing decision, top executives with the group risk appetite were named by 86% of participants. That said, although � Maintain existing levels of protection for each of the usually holding final authority, they are rarely alone in individual underwriting units the process. The responses indicate involvement from variety of disciplines, reflecting both the range of skillsets Whilst the client’s group risk appetite statement clearly required and the strategic importance of the decision. Risk determined the amount of risk they were willing to management, Finance, Underwriting and Actuarial are all retain net of reinsurance, there was a need to test involved to some extent, further supporting the theory that which mechanism of risk transfer was to be used to reinsurance decision making is now a group concern. ensure the reinsurance purchase was aligned with the group profitability targets. Benchmarking Through financial modelling of the client’s portfolio it emerged that the biggest risk to the captive was Over two-thirds of respondents use benchmarking when multiple lines of business being adversely affected considering their own reinsurance, with this increasing to in the same calendar year. After testing numerous almost 80% in APMETA structure options against a pre-determined set of KPIs, a multiline reinsurance cover was structured Despite the growing influence of risk appetite in and successfully executed. This gave the group the reinsurance, companies do still acknowledge wider market greatest probability of achieving their profitability and trends when considering their options. Of the insurers risk management goals, while ensuring the total losses surveyed, 68% admitted to having at least a small interest will not exceed their stated appetite. in the risk appetite and reinsurance strategy of their peers. In a large systemic event, shareholders may accept companies making a loss providing these losses are in Figure 5: The relevance of benchmarking by size % of line with the market. A worse than expected net position companies who responded to the question ‘Do you consider post-event could have negative implications internally the reinsurance programme of your peers when deciding on and externally, so companies strive to keep at least small your risk appetite and/or reinsurance structure?’ interest in the reinsurance purchased by their peers. 100% This approach is most prevalent in APMETA (78%) and 15 North America (76%) where benchmarking is an important 25 80% 38 part of the reinsurance review process. It also appears that 44 as company size increases, benchmarking becomes more 60% important, with 85% of very large companies reporting to have 70 at least a small interest in the programmes of their peers. 61 40% 45 49 20% 17 7 14 15 0% Small Medium Large V. Large � Yes � A little � Not at all 9 Global Reinsurance and Risk Appetite Report 2016 Measuring Reinsurance Effectiveness With such a broad range of stakeholders involved, it is inevitable that there will be a wide set of metrics used to evaluate reinsurance. Typically a balance needs to be found between capital and earnings protection, finding a programme which maximises the benefit achieved for one of these without sacrificing the other. The 2013 pilot survey in Europe highlighted the importance of KPIs to measure reinsurance effectiveness. The 2015 survey expands on this by providing a worldwide perspective and offering a more granular insight into quantitative metrics used for both capital and earnings protection. 10 March 2016