Monday, 13 February 2012
Insurance leaders remind buyers that innovation costs money
Top insurance bosses expressed concerns about pressures on capital and the parallel fast-rising demand from customers for ever-greater innovation during a high level debate on the first day of AMRAE's annual conference in Deauville.
The CEOs who took part in the debate reminded French risk managers in the crowd that the insurance industry has coped remarkably well with the recent threats posed by the credit crisis and subsequent economic and financial stresses plus huge catastrophic losses last year.
Regulatory developments such as Solvency II can only lead to a higher cost of capital, they said.
The insurance industry leaders reminded the audience that they have to deliver decent returns to investors if they are to maintain a healthy flow of capital in order to help their customers rise to the challenge of emerging risks with innovative solutions and meaningful capacity.
But this can only be achieved if customers are prepared to contribute to the development of newer coverages, pointed out the CEOs in a thinly veiled hint that price increases are required to secure the desired pipeline of capacity.
One of the key problems faced by insurers when they attempt to respond to customer demands for innovation is that new products are so quickly and easily copied by competitors.
This provides a natural barrier to innovation in the insurance market because it makes it more difficult for insurers to justify the investment in new products, as advantage can be quickly lost.
The rising ‘capital intensity’ of the business imposed by new rules such as Solvency II exacerbates this problem, argued the CEOs.
The main theme of the debate, which was hosted by Commercial Risk Editor Adrian Ladbury, was the changes that the insurance market has experienced since AMRAE organised the first Rencontres some 20 years ago.
Dennis Kessler, CEO of SCOR, said that, in this period, the ‘universe of risks’ has expanded considerably, and that insurers and reinsurers have made huge investments to accept risks that they could not imagine taking 20 years ago.
Financial innovation has helped the industry to interact with capital markets, and more strict capital requirements represents a positive development for clients, he pointed out.
But the outcome of all these factors is that the capital intensity of the industry has almost doubled in the past 15 years.
“When you needed one euro of capital for each amount of premium then, you need two euros today,” Mr Kessler remarked. “It is a fact that, to carry new risks, we need more capital,” he added.
The point was reinforced by Evan Greenberg, the chairman and CEO of ACE, who for the insurance industry to deliver acceptable results to investors.
He said that if insurance buyers want their providers to continue to deliver solutions to their growing risk transfer needs they should be prepared to pay the appropriate rates for their coverage.
“The industry [historically] has a lousy return on capital,” he said. “We want capital that is more fungible, that can come in and out. But it needs to be attracted by the returns that we can offer, otherwise capital will be allocated to some other business,” he added.
According to Mr Greenberg, the need to attract investors has clear implications for the ability of insurers to come up with new solutions. “Innovation can only go as far as clients are willing to actually pay for it,” he said.
The subject of innovation, a present concern among risk managers, occupied much of the attention of participants during the debate.
“Our industry is maybe less innovative than other industries,” conceded Axel Theis, CEO of Allianz Global Corporate and Specialty.
But he added that this could be because of reasons that are intrinsic to the nature of the insurance business. “It is very difficult to develop something new and then reap the benefits, because it is so easy to copy (insurance solutions),” he pointed out.
In any case, the incentives for insurers to innovate are not always there, he said. “Sometimes innovation is just another word for more coverage for the same price,” Mr Theis said. “But it is a normal negotiation process, I have no problems with that,” he added.
But Greg Case, the chairman and CEO of broker AON, said that, in the current market, the industry cannot afford the luxury of not coming up with creative ideas. “The onus on us—the brokers and insurers—to be ahead on innovation,” Mr Case said. “We have to be ahead on understanding risk.”
But this is a tough task because, according to Christian Hinsch, the CEO of HDI Gerling, insurance buyers increasingly have particular needs and require tailor-made solutions from their providers.
“The most important thing for us, insurers and reinsurers, is to increasingly individualise our services,” Mr Hinsch said. “Companies are becoming more and more differentiated, and we have to specialise in certain industries and services, according to their needs,” he added.
Participants also expressed concern about the forthcoming Solvency II directive, which is likely to add to the pressure on the industry.
“Solvency II was developed with good intentions,” Mr Hinsch said. “But now it has become a real administrative burden,” he added.
Mr Greenberg, for his part, pointed out that the notion of a global standard for the insurance industry that encompasses all countries and cultures is an academic idea, unlikely to work in practice. “I don't think that one size fits all,” he said.
“But I applaud Solvency II in the sense that the European Community came together and created a system that, given your culture and system of government, makes sense to you.”
But Mr Greenberg stressed that the notion of solvency in the insurance industry is much different in the United States. “Solvency II is too capital-oriented, too focussed on the models. It is really designed so that insurers will never fail. The regulators want to protect policyholders, bondholders, shareholders, employees, everyone,” he remarked.
“In my culture, the regulatory regime is meant to protect policyholders, and policyholders only. It is acknowledged that in a market economy insurers can fail,” he explained.
Mr Greenberg also criticised the mark-to-market accounting system that is expected to become the norm for insurers under Solvency II.
“A long term viable business should not have a capital regime that marks to market assets and liabilities on a quarterly basis,” pointed out Mr Greenberg.
Excessive capital levels could also be an outcome of this development, he concluded.
Aside from capital concerns and innovation, another challenge for insurers, according to Mr Hinsch, is to find the right people to help them expand in the emerging markets in Asia, Africa and South America.
“What is limiting us to achieve appropriate growth and to deliver nice returns to our shareholders is not capital, but actually talent,” he said.
Mr Hinsch stressed the growing demand for people who understand the insurance business, speak languages and are keen to move to the parts of the world that can deliver growth.
“There are great opportunities everywhere. But the question is: Are we able to attract the talent that will drive the industry and help our businesses to go forward?” asked Mr Hinsch.