As a 25-year veteran of the insurance and reinsurance industry, I have seen dramatic changes in the reinsurance relationship. Some of these changes have been for the good--such as in capital management and actuarial modeling of risk.
However, lost in the shuffle have been the relationships between reinsurers and their clients. How did we lose our focus and move away from these fundamentals?
Over time, the current model in our industry has been shaped by rating agencies, equity analysts and reinsurance company management, with each exercising their influence in different ways:
o Rating agencies look for spread-of-risk and manageable top-line premium as compared to capital.
o Equity analysts want smooth, increasing, predictable premium and earnings, and full deployment of capital is a plus.
o Reinsurer management teams want their organizations to be bigger, since increasing the most important metrics--size, headcount and capital--drives compensation.
These factors have shaped the current reinsurance industry model, which is defined by a small number of global reinsurers with highly diversified portfolios, yet virtually identical portfolios consisting of shares of similar risks. We have in essence created a commoditized reinsurance market.
If you doubt this, you only have to remember a remark made earlier this year by a reinsurer that successfully trumped a rival's bid on a blind basis. The commenter suggested that his team didn't need to conduct any due diligence before making their bid, as they knew everything the peer company wrote because they saw it, too. Perhaps a smart move, but a condemnation of our industry nonetheless.
A senior executive at a large reinsurer told me he believed that just about all of his top-50 accounts would move if someone offered them a higher ceding commission or a lower excess rate. And this is a company that has been around forever.
The result of this increasingly commoditized reinsurance marketplace is that most reinsurers have deep relationships with their economic models, but no longer with their customers. When we write shares of large numbers of contracts to make financial models work, we lose knowledge of our clients and the original risks underwritten in each of those contracts.
So in this marketplace, can a different kind of model exist? I think it can if we focus on four key lessons.
o First, ignore the equity analysts. Smooth, predictable premium and earnings does not a differentiated business make. And fully deploying capital only makes sense when there are good opportunities against which to deploy it.
o Second, don't try to be everything to all people. The reinsurance industry has become largely undifferentiated because we all offer the same products to everyone. Our intense focus on our own internal models has led us down the path of deemphasizing the importance of establishing strong relationships with our clients and the brokers who represent them.
o Third, don't obsessively spread risk. While diversification is good for our portfolios, our industry tends to take it to an extreme. We need to ask ourselves whether it is better to have shares of 100 workers' comp contracts, or a few deep relationships with clients we know and understand. The obvious conclusion is overdiversification leads to mediocrity. We should be able to do more with fewer clients.
o Fourth, and most importantly by far, we should focus our time finding truly excellent long-term partners as clients. A portfolio of a small number of successful clients will create better economics over the long term than writing smaller shares of many deals. It also has the benefit of allowing the reinsurer to know and understand the intricacies of the client's business better.
Over time, the reinsurer and the client should be very important to one another. And developing deep relationships is much more rewarding for all concerned on both a business and personal level.
What does an ideal client look like? Writing for profit and not volume? Having a niche specialty or some differentiator? Operational excellence? A seasoned management team? These are all required.
However, in a marketplace where reinsurers have commoditized the business and clients are predisposed to shop for price annually, being a good risk-taker is not enough. An excellent client is one open to building long-term relationships, that values their reinsurers' intellectual and physical capital, and sees reinsurance as a strategic part of their business plan.
There are so many interesting ways reinsurance capital can be applied, but it is hard to get creative unless the reinsurer, client and broker all take the time and invest the energy to do so.
To summarize, I believe our reinsurance industry has lost its way. We need to go "Back to the Future" to change our business model substantially, and our clients and their brokers need to meet us at least part way.
The benefits are clear. Clients can access interesting and differentiated reinsurance capital, brokers can develop long-term income streams, and reinsurers can have better knowledge of their portfolio. It is time to bring excellence back to the reinsurance business by developing long-term, strategic partnerships with excellent clients.
