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Chapter 6 Reinsurance programmes 6/5

The degree of security considered acceptable, balanced against the cost of the cover, may be influenced
by the type of business being reinsured. For short-tail business, where the final result will be known and
all losses settled within a short time, the quality of security provided by the reinsurer may be of less
concern to some buyers than when reinsurance for long-tail business is required.

Question 6.1

Why might long-tail business be viewed differently?

In considering the design of a reinsurance programme, the reinsurer, of course, has its own objectives
Reinsurer will want to
and, while the reinsurer will want to accede to the wishes of the reinsured whenever possible and accede to the wishes
reasonable, the interests of the parties do not entirely coincide and the reinsurer will consider the of the reinsured
whenever possible
following points: and reasonable
• moral hazard;
• administration expenses; and
• accumulation.
Moral hazard
If the reinsured cedes virtually all of its exposure to particular risks to the reinsurer, there will be a
danger that the reinsured loses interest in the performance of the original policies. The reinsurer will
want to ensure that the size of the insured’s retention achieves this.
Administration expenses
The reinsurer may tend towards programme structures which minimise the cost of administering the
premium and claims under the contract.
Accumulation
A reinsurer will naturally prefer business without accumulation potential as each such additional treaty
will yield diversification benefits. Catastrophe perils are quite the reverse and the reinsurer will look to
limit its exposure to such losses. Chapter

A1 Factors determining the choice of treaty Reference copy for CII Face to Face Training 6

The factors determining the choice of treaty or treaties are as follows:
• Does the portfolio consist of individual risks, such as property with varying sums insured which can
be allocated separately to a surplus treaty; or liability risks with varying limits of indemnity where the
allocation is more difficult?
• Is the portfolio exposed to an accumulation of losses from many policies arising out of one
occurrence?
• Does the portfolio consist of policies with unlimited liability, such as third-party bodily injury under a
motor policy?
• Is the portfolio subject to wide fluctuations in its annual results, such as crop hail insurance?
• Does the insurer seek reinsurance as a means of providing growth or capacity?
Consider this…
Do you think that quota share and surplus treaties are best suited to these objectives?

• How much premium will be ceded? If the aim of the insurer is to maximise its retained premium, it will
choose a surplus treaty over a quota share treaty. Under the surplus treaty, only that part of the policy
which is above the insurer’s retention is reinsured; under the quota share treaty, a fixed share of every
policy, regardless of its size, is ceded.
An excess of loss per risk treaty can replace proportional treaties. It usually involves a much smaller
reinsurance premium than a proportional treaty. Therefore, a much greater volume is retained but
there are reduced loss-recovery expectations.
Alternatively, an insurer may have limited financial resources, which places its solvency margin under
pressure, so it may seek a quota share treaty to relieve this pressure, by passing a substantial volume
of premiums to the reinsurers.
• Is commission a factor? Proportional treaties provide for commission to be paid back to the insurer,
whereas non-proportional treaties do not.
• How are the claims to be shared? Does the insurer want a contribution towards each claim or is it
content to pay all or a fixed amount of each, and possibly all of a partial loss?