Duperreault Says ERM Vital For Reinsurer Health

NU Online News Service, Sept. 10, 11:06 a.m. EDT

MONTE CARLO--The world financial crisis makes use of enterprise risk management even more important to reinsurance companies' balance sheets, Marsh & McLennan's president and chief executive officer said here.

Traditional measures of risk and capital allocation are insufficient to identify and manage systemic risks, and insurers and reinsurers need to "examine how each risk assumed affects their overall ability to achieve financial targets," advised MMC CEO Brian Duperreault.

His company is the parent of Marsh and Guy Carpenter brokerages. He spoke at a breakfast presentation sponsored by PriceWaterhouseCoopers during the annual Rendez-Vous de Septembre.

"Both sides of the balance sheet have to be considered. Credit stress and inflation can cause as much damage, if not more, than traditional insured losses do," said Mr. Duperreault.

Because insurance is no longer an exercise in risk transfer, he said, it requires a "holistic approach, in which the entire company's stresses and opportunities are examined. The goal is to find the best use of capital."

What this requires is a fundamentally different view of the balance sheet, the business and the economy as a whole, Mr. Duperreault counseled.

"Instead of putting on blinders," he said, carriers have been "happy to consider the many, varied and interrelated threats to their capital and devise comprehensive plans to protect their balance sheets, while optimizing the capital they put at risk."

The potential rewards for this approach, said Mr. Duperreault, are great--preventing unexpected losses can protect market capitalization, should a major loss event occur, he said. Those companies that have not taken a total view of risk and capital will find themselves "beleaguered, while prudent capital managers will more likely outperform," he said.

While a certain amount of loss is expected, he noted, "when results exceed expectations, equity analysts and investors can punish a company, consequently pushing share price low."

He reminded the audience that "this is exactly what we've seen this past year. About this time last September, we were watching Hurricane Ike cross the Atlantic just as the financial markets were about to erupt."

As a result, he explained, shareholder value dropped and "risk bearers panicked about the availability of capital, the cost of capital and their ability to obtain financial targets. Credit markets came to a standstill and equity values plummeted. Capital was constrained." The financial crisis triggered a recession and unemployment spiked, he said.

The effect on the insurance industry has been varied. Property-catastrophe reinsurance rates increased up to 8 percent he noted. In the U.S., which had to contend with the impact of Hurricane Ike, rates went up 10-15 percent, Mr. Duperreault related.

However, "even with dividend payments and share buyouts, most carriers were sufficiently capitalized to absorb the financial shock in September," he said.

Nonetheless, uncertainties left many wondering if reinsurance rates would harden, as they did after Hurricane Andrew, Mr. Duperreault remarked.

"As we've seen, however, these doomsday scenarios didn't unfold and the reinsurance rate spikes that many expected never occurred," he said and pointed to a slight increase in demand this year.

Supply he said has been adequate, "as reinsurer's supply in early 2008 was sufficient to absorb the financial and property losses that would come later in the year."

He added, "Not only has business continued, we've seen the financial markets beginning to stabilize." The lessons from September 2008, however, are clear, "to survive and be successful, you must have a robust capital management strategy."

By evaluating a company's risks as a whole, he said a carrier can protect capital from the unexpected, "which can lead to a significant competitive advantage."

Financial market and macro economic trends, he said, can be used to make specific risk transfer decisions and help carriers protect capital and sustain growth.

"What emerges is a view of risk that encompasses both sides of the balance sheet," Mr. Duperreault said, noting that the principles of ERM "address this totality."

ERM's purpose is to identify a company's spectrum of risks and develop a complete, cohesive plan, he said. While ERM is associated with models and methods, its basic building blocks are "imagination and anticipation."

He added that risk managers need to "conceive of the inconceivable, envisioning even the most remote threats to a company's balance sheets."

Asked about the challenges of integrating ERM into an organization, Mr. Duperreault said that most important is that a program starts with a company's CEO and there is recognition that ERM and management are synonymous.

Looking ahead, he said, he is bullish for the industry's future, "as we see the true benefits of what has once been called convergence. We have eased the barriers to interest in capital for markets outside the traditional carriers and I believe this will spur greater creativity and private development."