Rising adoption of formal risk appetite statements sees decision-making move into C-Suite, with increased focus on company-wide earnings and capital protection
The adoption of formal risk appetite statements within the insurance industry is driving a fundamental shift in reinsurance purchasing as insurers adapt to increasing regulation and wider scrutiny from investors, according to the findings of a new global survey by Willis Re.
The rise of risk appetite
According to the survey – which includes responses from 241 insurance companies in 48 countries – almost two-thirds (64%) of insurers now have a formal risk appetite statement, with a further 17% planning to develop one in the near future.
Of those that have a risk appetite statement, the vast majority (87%) are using this to drive reinsurance decision-making:
- Uptake has been greatest in Europe, Asia and Africa, with over 85% of respondents indicating they have or will have a risk appetite statement; in Europe, there has been a noticeable shift in formalising risk appetites driven by Solvency II requirements, rising from 56% in 2013 to 71%.
- Uptake in North America and Latin America however is at 51% and 54% respectively, though there is significant intention to employ a statement in the near future (15% for North America and 26% for Latin America and Caribbean). A sizeable increase for risk appetite formalisation is expected in North America with the full roll out of Own Risk and Solvency Assessment (ORSA).
Patterns were also noted according to company size:
The larger the insurer, the more likely it is to have a risk appetite statement; 90% of large companies (GWP $5bn+) have a formal statement, compared to 59% of medium (GWP $100m-$500m) and 60% of small (GWP <$100m) companies.
Publically held companies are also most likely to have a risk appetite statement (85%) as investors demand clarity around targets and risk tolerances. This is compared to a large proportion of privately owned (68%) and mutual (55%) companies who have a statement, with the majority planning to adopt one. The lowest uptake is with state-owned companies (43%).
Centralised reinsurance buying
The survey also confirmed the increasingly strategic nature of reinsurance purchasing at a company-wide level; 86% of companies stated that the final reinsurance purchasing decision is now being made by top executives within the firm rather than by individual business lines.
The majority of insurers (77%), however, continue to prioritise traditional earnings metrics when making reinsurance decisions: globally, combined ratio remains the primary key performance indicator followed by loss ratio and underwriting profit, with a marginal difference between these factors. But the use of capital-based metrics, such as return on equity (RoE) or return on economic capital (RoEC) is increasing, with 23% of respondents selecting one of these as the most important earnings metric.
John Cavanagh, Global CEO of Willis Re, said:
“The insurance industry is well served with data regarding losses, portfolio metrics and market dynamics, but until now there has been a lack of information around risk appetite and its influence on the reinsurance decision-making process.
“With rising regulatory and shareholder demands, increased pressure on insurer margins and a growing desire for a strong performance measurement framework, the dramatic shift towards risk quantification and management is clear. Centralised buying is also widespread as insurers increasingly link reinsurance strategies to risk appetite in order to achieve corporate objectives and the competitive advantage.”
Tony Melia, CEO of Willis Re International, said:
“As an industry we’ve observed the broad shift around reinsurance purchasing in recent years with the increasing adoption of formal risk appetite statements. Those statements have proven essential to provide macro-level guidance to underwriting, global retention management and alignment of cession to wider strategies – linking ‘micro’ strategies to ‘macro’ targets.
“The relative weighting of components will vary according to stakeholder objectives but aiming an appropriate blend of earnings target volatility management with capital optimization is key as insurers push towards more risk-based decision making. Interestingly, the reinsurance tools to achieve those capital and earning goals are not new; they do however need to be redeployed under a new light.”