Intermediary between insurance market and capital market

Munich Re believes the current market environment offers interesting possibilities and in late 2006 set up the Risk Trading Unit, which covers the whole ILS spectrum. As risk trading is more than just the securitisation of insurance risks, our approach is based on four pillars:

Managing our clients’ risks

We offer our cedants a whole range of instruments for portfolio optimisation. For example, capital market solutions are suitable for the outplacement of peak risks and offer interesting forms of cover. In certain cases, capital market concepts can also be used to attain an efficient capital allocation and thus to save cost of capital – the keywords being solvency and rating capital.

Particularly in the life insurance sector, ILS, besides being available for the purposes of risk trading, also create new financing opportunities, e.g. by way of more efficient financing of reserves. Liquidity effects can also be achieved by the securitisation of the present value of future income (as a component of the embedded value). Funds that are thus released can be used in other fields of business. Diversification effects can be achieved by means of swaps in addition to the familiar ILS products; swaps involve an exchange of risks, e.g. earthquake for windstorm. ILS can also be used to construct covers for risks that are customarily impossible or difficult to insure.

In order to give our clients the best possible support on their way into the capital market, we offer all the necessary services. We provide fronting capacity, optimise basic risks, offer structuring expertise, and take on project management. Being networked within the Munich Re Group and with other professional partners, we are in a position to cover the entire value chain.

Besides solutions for individual portfolios, pool solutions for smaller and medium-sized clients represent an interesting structuring alternative. Risks are first bundled in our balance sheet by way of a reinsurance agreement and then transferred to the capital market. Clients thereby benefit from capital relief that is recognised under supervisory law; in addition, a minimum size can be achieved through pooling that shapes the costs of a capital market solution in a way that is economically reasonable. Pooling calls for both an in-depth risk analysis and profound knowledge of investors’ needs.

A capital market transaction may also benefit from certain risks being assumed or held at Munich Re – in order to improve the placement conditions, for instance.

Risk warehousing

If certain risks are temporarily retained for own account, we speak of risk warehousing. There are two possible variants. In the first, a specific risk is written and transferred in part to the capital market. In the second, risks that have already been placed on the capital market can also be taken through the purchase of cat bonds, for instance. Investments in ILS make it possible to write insurance risks on the assets side of the balance sheet in order to utilise budgets that have not yet been fully exploited for certain risks and thus increase earnings potential or achieve diversification effects.

Restructuring and reselling risks

When risks are restructured or resold, they are structured in such a way that they can be placed on the capital market. The construction of risk baskets allows certain risks to be offered on the capital market at economically acceptable conditions. If such risks are intelligently restructured, they can be made available not only to the traditional investors (institutional investors) but even to private investors, e.g. in the form of funds or certificates.

Prospects

ILS have firmly established themselves as a complementary asset class and insurance type and will grow in significance. The examples of risk warehousing and restructuring emphasise the trading concept and show that risk trading is more than just the securitisation of risks. Developments in supervisory law are likely to give a further boost to the popularity of ILS. For example, besides Solvency II, there are endeavours within the framework of the European reinsurance directive to create a simplified supervisory system for insurance special purpose vehicles (ISPV).

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