Reinsurance tutorials #4 • The Basics
What is a reinsurance tool?
Insurance companies want to protect themselves against deviation in their budgeted claims load in terms of frequency or severity.
Reinsurers offer two main types of protection contracts called proportional or non proportional. These covers protect against a single risk that will be on a facultative basis, or book of risks of a line of business, such as Fire or Motor etc, then called a treaty.
Of course, there may be various combinations, both with regards to the mix of tools and to the line of business covered.
What is Proportional reinsurance?
If a reinsurer takes 20% of the risk from the insurer, that is to say the sum insured for that risk, he will receive 20% of the premium paid by the insured to the insurer, and should there be a loss on that risk, he will pay 20% of the loss paid by the insurer to the insured.
Due to this proportional reinsurance, the insurance company will be able to offer to their clients a large cover either directly or through brokers (underwriting capacity).
Depending on the financial strength of the company, the risk appetite of top management and their shareholders, and the cost of reinsurance, the insurance company will buy more or less capacity, that is to say it will cede more or less of its premium.
There is a wide array of proportional treaties (Quota share, Surplus, Covers…) with their own purposes, advantages and disadvantages.
What is Non Proportional reinsurance?
While Proportional reinsurance is based on the sum insured, Non Proportional reinsurance uses the size of the claim to design the cover.
The insurance company decides the claim amount it can assume for itself on one single risk or on one event involving many risks: that is the retention.
Claims exceeding that loss amount will be taken over by the Excess of Loss or XL cover, be it an XL per risk or an XL per event, up to the limit agreed between the insurer and his reinsurers this against a price which is agreed upon according to different factors.
There are different types of non proportional covers: Excess of Loss, Stop loss, Aggregates… What we could call vertical or horizontal covers with their own purposes.
Reinsurance is a service, and it comes at a price which varies depending on many factors: type of reinsurance, claims experience, exposure to the cover, not to forget market competition.
