
The best way to understand the asset class of reinsurance is to compare it to structured credit. Lending institutions can either hold various loans they have made on their books, such as residential and commercial mortgages, credit card receivables or bank loans, or they can sell the loans to other institutions and keep a small transaction fee for sourcing the deal. Insurance companies can do the same thing with insurance policies they underwrite. The insurance market is made up of 2 major risks which include life with approximately $2.5 billion annual premium per year and non-life $1.8 billion premium based on a Swiss Re/Sigma Global 2012 report. Non-life can further be divided into casualty and property. This paper will focus on the property reinsurance market.
When a bank sells their loans to a third party, often the interest and principal payments are broken out into various structured credit tranches, where a purchaser can elect to only purchase the specific cash flows that meet their needs. This carving up of a security concept is similar to how insurance companies carve up a basket of insurance policies. Reinsurers can elect which liabilities on which they would like to bid. For example, they might bid on a bundle of earth quake policies heavily weighted to Southern CA, where they would only be responsible for the liability after a certain dollar amount was paid out first. They could also size the risk to less than 3% of their portfolio.
The best way to understand the asset class of reinsurance is to compare it to structured credit. Lending institutions can either hold various loans they have made on their books, such as residential and commercial mortgages, credit card receivables or bank loans, or they can sell the loans to other institutions and keep a small transaction fee for sourcing the deal. Insurance companies can do the same thing with insurance policies they underwrite. The insurance market is made up of 2 major risks which include life with approximately $2.5 billion annual premium per year and non-life $1.8 billion premium based on a Swiss Re/Sigma Global 2012 report. Non-life can further be divided into casualty and property. This paper will focus on the property reinsurance market.
When a bank sells their loans to a third party, often the interest and principal payments are broken out into various structured credit tranches, where a purchaser can elect to only purchase the specific cash flows that meet their needs. This carving up of a security concept is similar to how insurance companies carve up a basket of insurance policies. Reinsurers can elect which liabilities on which they would like to bid. For example, they might bid on a bundle of earth quake policies heavily weighted to Southern CA, where they would only be responsible for the liability after a certain dollar amount was paid out first. They could also size the risk to less than 3% of their portfolio.