Is Offshore That Far from Shore?

March 2007

You really have to wonder where this marketplace is going during the next few years. I still think there is a serious paradigm taking place which will eventually have some rather interesting consequences on how this industry conducts its business.

by Peter M. Polstein

I find it amazing, that the 2006 Atlantic storm season, which dealt prognosticators a fearful blow at storm assumptions, has left an indelible mark on some who believe that market conditions not only have softened, but may well continue to do so in the face of both insurers and reinsurers paying closer attention to the management of model risk factors and their ability to monitor zonal aggregations of risk. Please, who are they kidding!

With the continued apparent intervention of our government in the insurance industry—which in my opinion has no business meddling with and no idea whatsoever the ultimate price we’ll all pay for its intuitive insight—and the continued movement of capital offshore, it is possible that our marketplace as we know it, may be reduced to underwriting basic lines of business.

Why Move Offshore?

This industry, whether anyone wants to admit it or not, has seen a dramatic shift during the past half decade of not only business, but the basis by which business is conducted. There have been literally hundreds of newly formed entities in a wide variety of offshore venues whose sole existence is geared to supporting catastrophic business, or the support of these thought-provoking entities who are involved in hedging their risk and the risk of others into the capital marketplace. Then you have a slow, but continual group of insurers who are quietly installing segregated cell, protected cell companies in many of the venues which are loading up with newly acquired capital. Surely, they are not doing this for any other reason than to employ substantially different methodologies of conducting business outside of the traditional underwriting practices.

The basic question is why? The answer is not necessarily apparent, although I have the feeling that we’ll all share in the answer sooner rather than later. There is no question, that traditional underwriting of basic business throughout the United States will undoubtedly continue much as it has in the past, but those risks, where risk is a significant consideration, could well see the placement of this business in a totally different framework.

We may well see a more substantial move by so-called middle market risk to offshore underwriting facilities, as either single risk applications. Or it is quite possible that risk retention groups, or more creative enterprises, might find their way into this market. It is likely that there well might be substantial tax advantages through the utilization of this marketplace which have yet to be considered. The major risk buyer has used a wide variety of creative off shore facilities, yet this potentially emerging marketplace may provide some additional excitement in a variety of risk takers.

The Ramifications

What’s interesting in all of this is the potential for the amount of business which can be underwritten. Last year, the American marketplace underwrote (if memory serves me) something in the vicinity of $400 billion in gross written premium. Bermuda, on the other hand, will underwrite something in the vicinity of $115 billion. But Bermuda has in excess of $300 billion in surplus. Just imagine writing at 2 to 1!

There are, in my view, some substantial problems which could result in this potential surge of offshore business, primarily capitalization of the market, regulatory issues, and my old friend, collateralization. However, all things being equal, one would think that it would be appropriate for those who are charged with the broking of business, and with the professional need to fully understand the risks faced by clients, to be similarly charged with the knowledge that if this marketplace is in fact moving toward this paradigm, that each and every one has not only the knowledge, but the ability to move in that direction.

The Development of the Joint Catastrophe Pool

On a somewhat different note, but keeping with offshore, as recently as February 27, 2007, the World Bank in conjunction with 18 Caribbean nations has formed what is the first Joint Catastrophe Pool which will be apparently centered on Grand Cayman. Each nation shall provide a fee of $1 million per annum, for which it shall be "insured" for some $30 million in immediate disaster funding.

The World Bank has a current fund of some $27 million in credits, with an additional $10 million in reserve, and it is expecting to have "donations" from the European Union of an additional $50 million. Apparently this will be in place in time for the 2007 Atlantic storm season. What is interesting is that funds will be available to each of the governments for the repair of storm damage. One has to wonder, though, how this will be doled out, as these funds have nothing to do with traditional domestic or offshore insurers, where placements may already be in force, irrespective of sufficiency. Is it a step in the right direction? Time will tell, especially how funds are managed.

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