Cover Notes: “Reinsurers: the world’s shock absorbers”, a conversation with Charlie Shamieh

Thank you very much, Michaela. Maybe allow me just to briefly introduce the Reinsurance Advisory Board. It is a specialist representative body of the European industry. It was created in 2006, and Insurance Europe is providing the Secretariat. It's represented at chairman and CEO level by the seven major reinsurers in Europe: Gen Re of course, then Hannover Re, Lloyd's, Munich Re, PartnerRe, SCOR, and Swiss Re. The key objectives of the RAB are to stimulate and also to maintain a stable, innovative, and competitive reinsurance market environment, and generally we aim to achieve this by promoting a regulatory framework that facilitates global risk transfer through reinsurance.

Thank you, Michaela. I think the simplest way to answer that is increasingly in every aspect of insurance we have more and more extreme risks that we are having to contend with, whether it's extreme increasing frequency of risk or severity of risk. And really the reinsurance industry for over a hundred years now – the old Cologne which is part of Gen Re for example is 177 years old – and many of the European reinsurers can attest to over a century of their history that has been the hallmark of their resilience in that period. If you want to have an example of an industry that's sustainable, you should look no further than the reinsurance industry because it has adapted to extreme events whether they come in the form of natural catastrophes, market risk events, credit events, illnesses, sicknesses, pandemics, etc. I think what has always stood out for me has been the respect for the technical expertise. Every single European reinsurer invests heavily in the science, in the data, bioscience, geoscience, and getting our arms around the increasing interconnectedness of risk. I think another aspect of this is I see it as frankly the engine in the insurance machine that isn't out on the front line getting the headlines, but frankly the car would not operate without a very sustainable engine, and I think that's the key role that we play in society today.

I think one of the key things when I was in Europe and we were beginning to get our arms around the Solvency II regulation that affected insurers and thinking about the most important aspect of the reinsurance business model as we just spoke was the need for reinsurers to pull capital in their major legal entities around the world and to deliver that capital to where it was needed in response to these extreme events. And that aspect has not changed, but what has increasingly changed is more and more regulators around the world are desiring of that capital to be more concentrated in certain pockets of the world, and to be honest that's a very limiting trend for reinsurers because it means the ability of reinsurers no matter how big they are to get the capital in time to where it's needed becomes limited. That actually drives up the costs of reinsurance and it also drives up the costs of insurance, and hence also limits the ability for insurers to close the massive protection gap that we have in our societies. So that's something that is a concern, and particularly when you're applying this standard to organizations that have demonstrated through as I mentioned centuries their ability to get the capital to where it's needed in time in real time, it is a little bit shortsighted if every regulator around the world is focused just on limiting their own corner of the world and without thinking of the need for these larger pools of capital to deliver a response in time. I think it is a dangerous threat to the entire business model that has clearly worked in decades if not centuries.

I think it's broader than that. It's not just the legislation. I think what's happening at the moment and we're seeing this in some of the latest headline challenges that let's say alternative capital is facing with collateral issues. I think that what regulators need to understand is the more they impose these high restrictive breaks on how capital can move, the more and more insurers and reinsurers will look for alternative forms of capital that are perhaps subject to far less regulation and lead to far more leverage in the insurance and the reinsurance system than we've ever seen before. And I think that's a defeating action because indeed then the entire security of the insurance system in those parts of the world becomes much more challenged. What I think seems to be happening increasingly is that capital is moving to the less regulated parts of our industry. So alternative capital, the standards around which they're required to capitalize for risks are not as rigid, let me put it this way, as what we are all subjected to in the traditional capital space. And I think regulators need to be aware that if they have an unlevel playing field between different forms of capital, traditional capital and alternative forms of capital, they will encourage a diversion of support to parts of the industry that aren't even regulated to the same extent. And you know people haven't thought about that as much as they are thinking about this in the last few months. And we had a similar crisis around the time of the Lehman ILS collateral crisis in the financial crisis, and people are thinking back again to how secure these alternative forms of capital are, particularly where they're not subjected to the same rigors that the traditional capital providers have been subjected to. That's what I'm concerned about quite frankly. And of course the other thing that we have in the last 10 to 15 years in particular is intermediaries have stepped up significantly their presence in the reinsurance space is much greater than it was. And the requirements around how risks are presented by intermediaries when they're delivered from insurers to reinsurers in my view are also very lax. If you pick up a submission from an intermediary and you compare it to the same standards that the insurer would be subjected to if they are raising senior unsecured debt as an alternative way of funding themselves, we have a very different set of standards. So I'm worried about that, that the power of intermediaries and the unregulated parts of our industry mean that we're creating an extraordinarily heavy burden on the part of the industry that's demonstrated sustainability in the last 100 plus years and doing very little in this other space. That's my key concern.

I actually, you know, having described all the threats, I think that the reinsurance industry right now and particularly the traditional reinsurance industry is in a very good position because many of our long-standing customer relationships are seeing the benefits of frankly doing business with people who've been around for hundreds of years and doing it in a much more traditional way and really understanding the value that reinsurers bring to helping insurers manage their risks over not just a quarter or a 12-month period but over decades. And so the value of long-term partnerships, which is what the entire reinsurance business model was built on, has really been tested by the power of intermediaries and alternative capital, and I think the shakeup that we saw in the last 12 months and then more recently in the insurance-linked space in the last three or four months is actually helpful for people to remember the benefits of a traditional multi-year relationship with a reinsurer. So I am not pessimistic about that, I'm optimistic, and I think that regulators need to understand that that's actually a really healthy thing for the insurance industry at large to help them focus also on managing their risks on a much longer-term horizon and not just to be going after the quarterly earnings uplift that some of the short-termism has encouraged. And often on untested theories about for example in the ILS space, the entire premise is very much on the idea that these risks are not correlated with other spread equity market commodity or other returns, and frankly in times of stress you see that these returns are much more correlated than what you thought they were. So I'm fairly optimistic about more and more insurers and their regulators understanding the need for a much more traditional partnership for managing these extreme risks that we talked about.

Yeah, I think again a lot of this has to be anchored to the science. So if we take the most recent, the first half of 2023 we had the second highest insured loss burden since 2011 in just this year, and the headline risk for the industry globally has been severe convective storms in the United States, many of which we've seen, of course there are others all around the world: the Italian floods in the Emilia-Romagna region, the Turkey earthquake, and the other events that we've witnessed. But if we take something like severe convective storm where we've seen the revision of the industry's expected loss from one year to the next be in excess of 50%, that sort of extreme movement you have to get back to what is driving this and how can we as an industry not just focus on the next renewal, the July renewal price, but more on what is driving this in the local communities and how are the insured populations protecting themselves against these severe convective storms. And that can be as granular as the building material, the building codes we have in our local communities, and how do we invest in the research to help us improve the loss mitigation at the front end so that the insurance product itself is not at risk of being deemed uninsurable. Because if the insurance product is uninsurable, you can be guaranteed that the reinsurance product will have a very hard time setting a price and setting a limit in terms and conditions that will make it insurable. So specifically in the example of severe convective storms, we have in the United States a not-for-profit organization whereby many of the global reinsurers and the local insurers have contributed to the research at the Institute of Business and Home Safety, and that's an excellent example of how we're not just talking about sustainability but we're actually investing in sustainability. And the team of engineers and scientists at the IBHS, which is all funded by the insurance industry, the primary insurers and the reinsurers, does an excellent job on trying to educate us on the resilience of building materials and then hence putting pressure back on the manufacturers to improve the resilience of those materials and on building codes in local communities to ensure that those societies are more sustainable. And we don't take credit for a lot of that in enough of a way because frankly all the reinsurers around the world invest a very heavy proportion of their research budget in this space. There isn't, and the Europeans are I think especially can be especially proud of how much they invest in that. And frankly without that research we wouldn't be affecting the risk at the primary side and hence improving the cost of the reinsurance at the other end. And I see that unless we do more of that, we are simply on a path to more and more unaffordable insurance prices and hence reinsurance prices. It's really the adaptation piece in the end and working very much hand in hand with public authorities to really get the prevention piece improved and looking better to increase resilience in the end.

I think like I mentioned earlier, the aspect of that piece of sustainability, it's not so much regulated as a necessary part of being successful if your objective is to be a long-term partner to the insurance companies that you serve as a reinsurer. And regulators in my view are sometimes focusing too much on the other aspects that are more measurable and more quantifiable and less so on these crucial aspects that are vital to encouraging the right terms and conditions, the level of deductibles, the level of limits, avoiding the dilution of insurance premiums on legal costs for example in the United States is a good example. And I feel like the effort is being placed in sometimes in the regulatory arena on things that are much easier for regulators to observe, disclosure standards etc., and not so much on these other aspects that I talk about that are potentially much more impactful in terms of true sustainability. And clearly the other players that I mentioned earlier, the intermediaries and the alternative capital participants in the marketplace, to them I don't think these aspects are that important and there is none of this regulation applying to those bodies. And I worry that we create an unlevel playing field where the traditional capital providers are burdened with a massive cost of compliance and we encourage more and more capital to go and escape that cost of compliance. And so it has to be proportionate, much more proportionate than it has been to date, and understand too that you need to sort of encourage these other activities that may be even more impactful on long-term sustainability.

I think it's undoubtedly correct that if you compare the regulatory regime we have around the world today in say Solvency II, risk-based capital in most of the developed parts of the world, we have a superior risk-based system than what we had 20 years ago when much of this was really at its infancy. There's no question. And people should remember that when you have a regime that is not risk-based, you can get arbitrary outcomes by stakeholders whether they are rating agencies or regulatory bodies that are arbitrarily following non-risk-based metrics that lead to interventions and downgrade effects etc. that have really nothing to do with the true economic solvency of an entity. So I don't want to dismiss all of the development in the last 20 years as not being valuable because frankly I lived in an era where there were arbitrary outcomes and that's why many of the chief risk officers that formed the CRO Forum in those days argued strongly for something that was much more economic. So I want to be very balanced in any criticism of the regime we have. But if I look now forward to and actually began my career at a European reinsurer 20 years ago exactly, 20 and a half years ago, if I look at the regime we have today, there is a danger of it becoming increasingly complicated and more and more rules that are seeking more and more protection and potentially hindering the ability of reinsurers to properly compete. And one of the things that I think we do have to be concerned about, the more extreme the investment restrictions are for example, clearly many of the European insurers argued for this at that time and their voices were not heard, the less and less investments we will have in things like infrastructure and assets that we need insurers and reinsurers to invest in in order to have sufficient capital to help manage the drastic need we have for infrastructure upgrades all around the world, not just in the United States but all around the world. So I do think there has to be a balance between the degree to which we have increasing requirements and more risk-based approaches. Having said that, there are some positive things. So for example, I think the financial crisis in 2008-2009 highlighted the weaknesses in many insurance companies' liquidity risk management practices, and I would say certainly in the United States almost every insurance and reinsurance company learned a lesson from that, including for example the fact that in the United States almost all regulated insurance companies have some access to the Federal Home Loan Banking systems, discount liquidity window essentially giving them access to just-in-time liquidity if they need it. Similar things around the rest of the world I think are appropriate to manage short-term liquidity risks, but in the reinsurance space most traditional reinsurers I think have this aspect covered well and have strong liquidity risk management practices internally that ensure that the right amount of funds gets to the right place without too much distress.

Well, I think the construct of the group supervisor model is a very healthy one, and I have witnessed that when I worked for a European headquartered organization and I have witnessed that when I have worked for a US headquartered organization. So I do think if you attend those college of supervisor type sessions in a real organization, you see that there is a level of transparency and a language around risk like the ORSA language for example, which we adopt in the United States and was developed first in Europe, that is extremely helpful for regulators all around the world to understand the true material risks that global insurance and reinsurance organizations are faced with. And I believe that is by far and away the most useful way for regulators that are regulating a group to really participate in the active regulation of that group as opposed to each of them trying to go back to where I think we were seeing at the beginning of Solvency II, every regulator did not trust such a process and wanted much more of a much more parochial approach, which I think is dangerous. And why is it dangerous? It's dangerous because they will discourage global organizations from serving those local communities, and almost every part of the world is seeing the need to get more capital to help support more extreme risks in that part of the world. And so the main thing I would plead with all regulators is that a more myopic and more parochial approach essentially discourages protection for local communities and business development in those local communities. And if you participated in an ORSA process globally, it's I think very respectful of local regimes and very tailored to individual risks in those regimes, and I think that's a very healthy place for the insurance industry to be rather than sitting in each of our pockets and criticizing this regulatory regime over another, understanding the bigger picture of what are the merits of this regulatory regime, what are the disadvantages, and how does the organization manage its aggregate risks whether it's to catastrophes or pandemics or cyber attacks. And clearly right now probably as important as the insurance risk for all those organizations is how does it manage data breaches, IT security, how resilient is the organization to things like that. And it's impossible really for a regulator to get a good view of that by each having a myopic approach to the branch or the subsidiary that they regulate. They need to participate in a much more global dialogue. And I know most of the global organizations in the RAB encourage that and have that as a real living part of how they regulate themselves.

Thank you, Michaela. It's a pleasure. Thank you. Bye.