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Chapter 5 Features and operation of non-proportional reinsurance treaties 5/9

Example 5.7
Assuming that:
Risk X: insurer’s net loss before excess of loss = £8.34m.
Risk Y: insurer’s net loss before excess of loss = £12m.
A third loss arises from the same loss event.
Risk Z: insurer’s net loss before excess of loss = £50m.
On a per risk excess of loss insurers could claim:

Risk X: £8.34m – £5m = £3.34m.
Risk Y: £12m – £5m = £7m.
Risk Z: £50m – £5m = £45m.
Making a total of £55.34m, with the insurer retaining three retentions of £5m = £15m.

Under the event based cover
Risk X: £8.34m
Risk Y: £12m
Risk Z: £50m
Total £70.34m
Less deductible £5m Chapter
£65.34m 5
However, if maximum limit of reinsurance purchased is £45m.

Insurer retains further £20.34m.
Therefore, the insurer will retain £25.34m (£20.34m plus £5m retention) under the per event and £15m under the
per risk covers. Reference copy for CII Face to Face Training

Whatever method of protecting each of its risks an insurer chooses, it must also consider the likelihood
Recoveries may be
and possible effects of a major or catastrophic event that will result in a number of original policyholders restricted by event
making claims against the insurer at the same time. The insurer will recover a proportion of any such limits
losses on individual policies from any proportional reinsurance arrangements that it has in place and
also, possibly, from any risk excess of loss cover it has purchased. However, the amount of any such
recoveries may be restricted by the inclusion of event limits in the reinsurance protections. What
constitutes one event is an essential point for agreement between the reinsurer and the reinsured.

Accumulation of loss
It is the known, and possibly unknown, accumulations of losses to an insurer’s net retained account that
may present an unacceptably high risk to the ultimate profitability of any particular account or to the
company itself. The insurer should seek to purchase catastrophe excess of loss protection to reduce the
effect of such situations.
In a property account, such losses are usually associated with natural perils or conflagrations, and the
purpose of catastrophe excess of loss protection is to provide cover for the occasional, infrequent but
major loss event.
For our purposes, the definition of a catastrophic loss event is that it should be caused by a specific,
sudden, fortuitous, shocking and external happening that can be located in time and place. Moreover,
any such event must be the proximate cause of each and every loss to the original insureds that the
insurer is accumulating to calculate its catastrophe claim and will be a peril covered by the catastrophe
treaty. It is accepted that a catastrophe claim can include losses from any other peril covered by the
treaty that directly arise from the initial peril.
Deductible
The deductible is the point at which the excess of loss reinsurance will start to pay claims and setting it
Deductible is the point
at a suitable level is the first decision that must be made. In monetary terms, this will vary greatly from at which the excess of
company to company depending on its financial strength and the extent to which it is exposed to loss reinsurance will
start to pay claims
catastrophe perils. It is assumed that a catastrophe protection would not usually be called upon to
respond to a claim situation unless the company had lost the equivalent of a minimum of one risk
retention, and that two or more original risks had been affected by the same event.