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Chapter 1 Purpose of and the parties involved in reinsurance 1/11 Chapter

C Motivation for selling reinsurance 1

Before we examine the various categories of sellers of reinsurance, in the same way as we have
considered the motivations that exist to seek reinsurance, we now need to consider the motivation that
exists to sell reinsurance.

C1 Profit

Reinsurance is generally a profitable industry over a sustained period – otherwise it would be unlikely to
A profitable industry
exist. Companies endeavour to ensure that their combined ratio is kept below 100%. over a sustained
period
In this context, the combined ratio is a calculation of two ratios for the year added together to provide a
simple indication of current underwriting performance. The loss ratio, which is the percentage of
incurred losses (may also include loss adjustment expenses) to earned premiums is added to the
expense ratio, which is the percentage of incurred expenses to written premiums.
When there have been increasing investment returns available from reinsurance, capital investment has
arisen as investment vehicles have considered that the relative return from reinsurance is higher than
other investment opportunities.

C2 Investment income

Underwriting reinsurance business gives companies income that can be used for investment purposes. Refer to chapter 9,
section D for market
Until recently, many companies underwrote reinsurance on the basis that the investment return on their cycles
assets would cover any shortfall in their combined ratios. When reinsurance is transacted with market
share rather than underwriting profit as the principal objective, downwards pressure is created on
reinsurance pricing.
Companies may also be participating in the selling of reinsurance as they consider that the return on
equity from the sale of reinsurance may be stronger than other forms of equity investment. This is
particularly relevant if the reinsurance market prices are high when interest rates are low. Reference copy for CII Face to Face Training

C3 Spread of risk

Insurance companies, in particular those which have their assets strongly linked to one market, may
wish to participate in reinsurance in order to obtain a spread of risk and hence reduce the impact of any
catastrophe that could occur in their home market. Here we can see that an insurance company can also
assume the role of a reinsurer.

C4 Reciprocity

Companies may underwrite inwards reinsurance as part of a reciprocal arrangement with other insurance
or reinsurance companies. Insurance companies providing substantial business to a reinsurer may
expect business in return by participating in that company’s outwards reinsurance cover.

C5 National retention of premiums

Some governments, especially in countries with emerging markets, have set up domestic reinsurance
Some governments
vehicles in order to ensure that not all reinsurance premiums flow from the country – which might affect have set up domestic
the balance of payments. This can be a problem as foreign reinsurers can often demand payment in set reinsurance vehicles
currencies (e.g. USD, Euro and GBP), requiring purchase of these currencies and potentially adding to an
equity debt. By setting up their own reinsurance vehicle, governments hope to grow a domestic market
in reinsurance and import knowledge of the handling of reinsurance.
Also, as we saw in section B1, governments may determine that insurance companies that are not
licensed in a particular country cannot participate in the domestic insurance market. As such, the
companies may only be able to achieve access to that market by selling reinsurance to a domestic
company.