Captives and alternative capacity

Captives are very accustomed to a cyclical insurance market. During hard markets, captives mitigate higher prices by retaining more risk, negotiating terms and conditions, and seeking new markets.

Alternative capacity, in the form of collateralised reinsurance, dramatically increases the ability of captives to respond to these changing market conditions by replacing fragmented, reduced, or withdrawn capacity from traditional markets.

Investors providing the capacity to write casualty business are motivated long-term partners seeking asset management opportunities within non-correlated investments. They operate outside the insurance market cycle. Captives, through a company such as MultiStrat, can partner more directly with capital providers for risk protection, capacity, surplus enhancement, growth and acquisition capital, and retrospective financing and exit solutions.

An alternative capacity provider such as MultiStrat must work with many partners, including specialist intermediaries, fronting carriers, managing general agents (MGAs), third party administrators (TPAs), investment managers, collateral providers, captive insurance managers, excess of loss carriers, law firms, and others.

Creating casualty solutions backed by capital market capacity requires a highly collaborative approach. Captive reinsurance programmes arrive with many partners such as fronting carriers and TPAs already in place. Like a new traditional market, alternative reinsurers must work with existing counterparties when joining a panel of reinsurers. Fortunately, investors providing alternative capacity prefer to be alongside the most experienced traditional markets rather than replace them.

Alternative capacity for captives is beneficial in several ways. Quota share programmes can be as small as $2 million or as large as $100 million or more in annual premiums. Loss portfolio transfers can be as small as $5 million and as large as $1 billion in liabilities.

Alternative reinsurers can combine prospective and retrospective coverages to increase surplus, diversify coverages, and reduce costs. Often, investors can take a larger share of reinsurance programmes than those offered by many traditional reinsurers.

Smaller or poorly performing reinsurers can be displaced to minimise credit risk and reduce audit and reporting burdens. And alternative investment management may generate better returns to share with captives who are more restricted in their investment guidelines.

The learning curve

There is a learning curve to working with alternative capacity. An alternative reinsurer must educate investors on reinsurance market conditions, exposures, cash flows, permissible investment guidelines, and downside scenarios. Reinsurance buyers need to know about collateral, investment guidelines, claims funding, legal agreements, and investor recourse to enable informed comparisons of alternative and traditional capacity.

It takes longer to arrange the first collateralised reinsurance transaction with a captive, but the relationship formed and templates created make renewals easier in the future. The learning curve can be reduced by creating a transparent and supportive relationship between a captive buyer and an investor backer. A fundamental lesson is that “normal course” in executing a transaction is not the same for a captive buying traditional reinsurance and an investor participating in an insurance securitisation. The two parties, and their legal counsels, need help reconciling the differences.

When selecting an alternative capacity provider, a captive needs to look past the “storefront” and assess how underwriting referrals, claims oversight, value-added consulting, reserving, portfolio analysis, financial, technical, and investment accounting support, and investment and collateral guidance will be delivered in the context of a multiyear relationship.

An alternative capacity provider should have access to more than one investor or fund to optimise fit and terms for all parties. With the reinsurance experience and market knowledge of a company such as MultiStrat, alternative investors can evaluate sophisticated ground-up actuarial, statistical, and top-down capital return models to deliver attractive outcomes for captive buyers.

Collateral in the form of reinsurance trusts, letters of credit, surety bonds, and recourse guarantees provided for individual transactions and vehicles provide a very high level of security compared to the claims-paying ability ratings of traditional balance sheets. Capital market sponsors are often much larger in terms of assets under management than traditional carriers.

MultiStrat has underwritten more than $1 billion in premium in casualty reinsurance placed directly with investors since 2014. MultiStrat pioneered single large transactions and built diversified pools of multiline casualty business for investor sponsors. We write prospective and retrospective coverages, separately and on a combined basis, for captives, self-insured pools, public entities, MGAs, insurers, and reinsurers.

Our coverages can focus on single lines or span multiple programmes or lines of business. Investors have used our onshore and offshore segregated accounts and protected cells, built independent captive and standalone reinsurance companies with us, and relied on our investment and collateral design expertise.

When we face the reinsurance market, MultiStrat operates like a traditional reinsurer providing capacity. In parallel, when we face the investor market, we deliver attractive non-correlated investment opportunities in an alternative asset class. MultiStrat’s core advantage is a fully integrated team of reinsurance, capital markets, and operations professionals. MultiStrat is the original innovator and thought leader in delivering casualty reinsurance to the capital market.

An innovative total return opportunity for investors can produce creative coverage alternatives for captives. Capital market investors, including institutional, alternative, family office, pension, and high net worth individuals will expand reinsurance market capacity, especially partnered with experienced underwriting and capital advisory companies such as MultiStrat. Captives ready to embrace alternative capacity will benefit from this evolution.