The $500bn reinsurance industry provides insurance for the insurers. In this market it is all about premiums and risk and the relationship between them, defined as the loss ratio. Like primary insurance, reinsurance is a mechanism for spreading risk. Reinsurers takes some portion of the risk assumed by the primary insurer in return for a premium.
However, here the similarities end. Where reinsurance differs from primary insurance is that each policy or contract is individually priced. Each contract is unique and there is no place for the law of big numbers or the pooling of shared risk. There is no average price in reinsurance.
And this creates the pricing paradox as defined in the study notes by David R. Clark, FCAS, in the Basics of Reinsurance Pricing.
“If you can precisely price a given contract, the ceding company will not want to buy it.”
In other words, if the historical data were stable enough to provide data to make a precise expected loss estimate, then the reinsured would be willing to retain the risk them selves.
Reinsurance is a complicated and complex business. With massive volumes of data, finely tuned algorithms, variable upon variable upon variable, all these factors result in an (near) infinite number of permutations.
This is why the reinsurance industry relies so heavily on the judgment and competency of their actuaries and underwriters (see difference here). They make their money by knowing when the underlying assumptions have not been met and how to supplement the results with additional adjustments and judgment.
“Technology to the rescue!”
A few months back I featured a London based business, QuanTemplate. They have just raised $8m to continue their expansion in predictive analytics for the insurance industry.
And earlier this month, I caught up with two of the three co-founders of Canadian based Analyze Re when they were in London. I had been introduced in the summer to co-founder and CEO, Adrian Bentley by a mutual acquaintance who had worked with Adrian at Flagstone Re a few years ago. I also got to meet fellow co-founder Oliver Baltzer, the CTO and technology brains behind the business. The person missing from this triumvirate was Shivam Rajdev.
The backstory here is a familiar one for all tech startups.
- They understand the market.All three co-founders come from the industry, which means that they have real life experience and understanding of the market problem they are solving.
- They have leveraged tech from another industry.Using real-time, mass volume data technology developed for hedge funds to support decision-making and where speed is of the essence.
- They have clearly identified their niche.Which is to enhance and augment the decision making process for actuaries in the underwriting process
Their journey started around 2006 when Adrian and Oliver joined Flagstone Re to apply their capital market technology skills to the insurance market. Flagstone’s objective was simple; to enable underwriters to make better decisions using high performance computing. Working on catastrophe models, they started to develop tech that would drill deeper into the underlying assumptions and risk details of contracts.
Following Flagstone Re’s acquisition by Validus in 2012, the three co-founders left to start up Analyze Re. By 2013, they had raised cdn$1.4m in funding from a combination of VC’s and angel investors.
In the beginning, the co-founder’s took their business idea through the Starting Lean program at one of Canada’s oldest universities, Dalhousie University before moving in to the Volta startup in Halifax, Nova Scotia. Volta is different in it’s approach because it has been set up to NOT be an accelerator, but instead create a community environment to nurture new startups through quality and not speed.
Through 2014, they built the tech and now they are engaging with some of the largest reinsurance and Insurance Linked Securities firms in the industry,
So, what is that that Analyze Re have built?
Adrian and Oliver explained the reason they see their Prime platform as unique. “In a traditional reinsurance business, the Execs and the underwriters are disconnected. The Exec set their strategies for returns against their portfolios. But, because of this disconnect, the underwriters have little line of sight to those strategies. There are no analytics in place to bind these two functions together, which is where the Prime platform comes in. We produce real time analytics that connects the strategic objectives of the Executive with the contracting process of the underwriters.”
Typically, the way this process works today is that, around this time of the year, ahead of the January renewals season, everyone gets in a room and in turn, they each discuss a book of business. They look at each book individually through the lens of a spreadsheet and manually re model the book, eventually reaching consensus on an outcome they want to achieve. This becomes the strategy for each book.
Sum of the parts…
Analysts collate these strategies together and generate scenarios based on the bottom up, collective position for each book. With Analyze Re, the process is turned on its head. The top down strategic objectives from the Exec are plugged into the Prime platform and distributed to the underwriters. Each underwriter then assesses their own position against the interdependency on their own books of business. They then feedback what they can achieve against the strategic objectives and as a result the Exec should expect a high return against their portfolio.
Analyze Re effectively crowd source the performance returns from their own underwriters
Prime is a scientific computing platform designed to handle massive volumes of data extremely quickly. Its algorithms are deeply routed in science and combined together in an engineering framework using high performance computing.
It enables underwriters to model multiple scenarios in a way they couldn’t do using conventional tools and spreadsheets. As a result, they improve their forecasting by adjusting the variables to predict the underwriting decisions that give the best return.
At Rendez-vous last week (the reinsurance industry’s annual get together in Monte Carlo), the theme of the conference was efficiency with M&A as a hot topic for achieving operational efficiency to improve returns. The Analyze Re tech tackles the root cause that the industry is grabbling with. And with the market being tough right now, without this step change in performance enabled by this kind of technology, it’s going to be difficult for reinsurers to continue to be profitable.
Analyze Re has made the platform easy to use and easy to buy. The in-house underwriting and decision support systems remain in place and connect to the Prime SaaS platform through standard APIs. It is tech solutions from the likes of Analyze Re and Quantemplate that are redefining the ‘art of the possible’ for insurance underwriters and actuaries. And this is not a small step change either, this is massive for the reinsurance industry.