Singapore Positioning to be a Leading Alternative Risk Transfer (ART) Centre in Asia
Singapore, 23 May 2000... The Monetary Authority of Singapore (MAS) today announced its plans to position itself as a leading ART centre in Asia when alternative risk transfer products take off in a big way in this region.
2 Speaking at the 2nd Conference on Alternative Risk Transfers (ART) in Asia organised by Asia Insurance Review, Mrs Hauw Soon Hoon, Executive Director, Insurance Department of MAS, noted the rapid changes in the global risk landscape, and the need for the insurance industry to rise to challenges to provide more innovative products to protect corporations and insurers from not just insurance risks, but financial and business risks as well.
3 "The insurance industry has to adopt a new approach which could encompass providing hybrid solutions, such as the meshing of insurance and capital market techniques, to better service clients' needs. We therefore think the prospect for alternative risk transfer products is very promising indeed," said Mrs Hauw. Elaborating on the global developments in ART activities such as captive business, financial reinsurance and risk securitisation, Mrs Hauw shared some of the measures that MAS had adopted or was studying to attract such cutting edge activities here in Singapore.
4 To facilitate the development of financial reinsurance, MAS had in August 1999 issued notices on financial reinsurance to general insurers and life insurers to set out MAS' stance on the definition and use of financial reinsurance. The Notices also provided guidelines on the application of risk transfer rules and accounting treatment, as well as disclosure requirements pertaining to financial reinsurance.
5 With a view towards enhancing Singapore's position as the leading Asian captive domicile, she disclosed that MAS would be studying issues relating to the formation of rent-a-captives and protected cell companies in Singapore.
6 On the latest ART development in the area of risk securitisation, Mrs Hauw said that MAS was keen to see the structuring and issuance of insurance-linked securities being carried out from Singapore, as it would have a synergistic effect on MAS' effort to develop the capital market.
7 Noting the promising prospects of ART products globally as well as in Asia, Mrs Hauw said, "The future will probably belong to those service providers with the requisite know-how, strong financial standing and the ability to provide total risk solutions that create value for their clients. Opportunities call on those who can rethink risk beyond traditional boundaries."
GLOSSARY OF TERMS
What is ART?
There is no commonly agreed definition for ART. It is a term often used to describe a broad range of products which have been brought about by a perceived convergence of insurance market and capital market practices. ART solutions are typically tailored to meet clients' specific needs in respect of their total risk management, covering insurance, financial and business risks. The ART market encompasses a wide variety of mechanisms including captives, finite risk insurance, and securitisation of risk.
What is a captive?
A captive is an insurance company that primarily insures the risks of its parent company and related companies. It is a closely held company whose insurance business is primarily supplied by and controlled by its owners, and in which the original insureds are the principal beneficiaries.
What are the benefits that a rent-a-captive/protected cell company facility can offer?
A rent-a-captive is an insurance company that provides unrelated parties access to the benefits of a captive insurance company without the up-front costs and capital investment required in forming their own captive. The rent-a-captive "rents" its core capital, surplus, insurance licence and legal capacity to engage in underwriting activities for clients who are not its voting shareholders. Internal arrangements are set up in such a rent-a-captive structure to avoid cross-liability of one client to other clients i.e. assets of one client are protected from the misfortunes of its co-users.
A protected cell company provides the same facility as a rent-a-captive except that protected cells are created to segregate and protect the assets of one cell from claims which are unrelated to that cell. Hence, individual cells have statutory protection to ensure that creditors of one cell do not have recourse to the assets of other cells.
What is finite risk reinsurance and how are such contracts different from traditional reinsurance?
Finite risk reinsurance can be defined as a non-traditional form of reinsurance that emphasizes the aspect of risk financing rather than risk transfer. Finite risk concepts are based on the spreading of individual risks over time while traditional insurance is based on the law of contribution from a large number to meet the losses of a few.
Such contracts are usually multi-years and explicitly recognise time value of money unlike traditional insurance contracts that are usually renewed on a yearly basis. Cedants of finite risk reinsurance would have a greater share of the net experience of the account and the reinsurer's liability is capped within a much narrower brand than it would have been under a traditional reinsurance contract.
What is risk securitisation and what is meant by basis risk?
Risk securitisation refers to the transferring of insurance risks to capital market investors in the form of insurance bonds or via derivatives transactions.
In the case of a bond issue, a company intending to transfer its risks to the capital market would set up a special purpose vehicle (SPV) to issue the bond. The SPV would assume the risk from the company and then in turn transfer the risk to the investors. It would invest the proceeds from the issue of the bond together with the premiums received for the assumption of risk, in order to pay annual coupon to the investors. When a claim arises, the SPV would make payment to the company and this would affect the amount of principal and income of the bond available for distribution to the investors at the end of the securitisation deal.
In several of the bonds issued so far to provide coverage for catastrophe risks such as earthquake, the deals were structured to pay out an agreed sum when an earthquake of a certain magnitude based on an index strikes in a particular area. Hence, the payout under the bond is linked to an index which may not resemble closely the bond issuer's own underlying exposures and leaves the issuer with the risk of the payout from the bond not being adequate to compensate the issuer's actual losses. This risk is known as basis risk.