Editor's note: The cover story titled
"For Whom the Bell Tolls," published in the Sept. 1, 2006, issue of the magazine, elicited strong responses from readers. As a result, we have decided to publish some of these reactions on this page.
Citing insurance marketplace conditions as they have developed in response to actual and prospective megacatastrope events, the author asserts that "the insurance option is under pressure that makes it increasingly irrelevant" as a risk management tool, particularly for those companies "with the largest and most complex risks."
We challenge aspects of that vision. We believe that by extrapolating observed short-term behavior into an uncertain future and magnifying that behavior, the author shortchanges the adaptive heritage and agility of insureds and insurers in managing risk and effecting risk transfer through the new equilibrium, complemented--not supplanted--by the growth and maturation of the capital market solutions.
Insurance industry history provides a relevant example of such adaptation. The relatively sudden hard market of the mid-1980s led to significant changes in the risk management landscape: large retentions; expanded roles for risk control and claims management; the birth of specialized underwriting facilities; diversification of offshore capacity offerings; expansion in the breadth and number of captive insurers; and elevation of the profile and role of risk management within the modern corporation.
The megaevents of the new millennium have impelled the adaptation and change at every level within our society. Although conditions are dramatically different than those of yesteryear, the process of creative adaptation applies, nonetheless, as does the imperative for capital providers--insurers, reinsurers, capital markets and insureds themselves--to be able to gauge the many dimensions of risk across the organization. And therein resides the challenge: developing reliable measures of expected frequency, severity and volatility for megacat risk. Without that, whether it's the global property/casualty market with up to $400 billion of capacity or the derivative market with an estimated $300 trillion, capital providers will not commit capital. It's as simple as that. All of which explains the recent behavior of the commercial insurance marketplace in protecting its assets and preserving its overall claims-paying ability. Insurers are obligated to ensure that any megacat risk they take on is thoroughly understood, measured, aggregated and priced.
Doing so calls for a fundamental shift in the industry model--a megashift, if you will, responding to the challenge of insuring megacat risk. Traditional hazard risk, strategic, operational and financial risk--in fact, the entire range of boardroom and stakeholder concerns--can be impacted by megacat events. To remain relevant and to thrive, insurers therefore need to embrace a new paradigm, that of being in the "risk business." It requires that they develop new techniques for modeling nonhazard risk, commingling insurance capacity with other forms of risk capital and then offering risk transfer in some fashion across the key risks of their insureds' organizations.
We believe that will happen. The insurance industry is rich in technical resources. Insurers possess systems, methodologies and experience that capital markets will need to either replicate or draw upon. We see great opportunity for effective and efficient partnerships between these two vital segments of the financial products industry.
Finally, the author speaks of a "discrepancy between market demand and supply," noting that exposures are "growing faster than global insurance capacity." Certainly, aggregation risk has continued to grow, outpacing the growth of traditional risk-transfer capacity in many marketplace segments. We have described and addressed the phenomenon in our "Marketplace Realities" publications and through a Willis webcast earlier this year. There is no single "magic bullet" solution. Pooling, mutualization, captives, noninsurance--all of these are degrees of self-funding. What is needed for dealing with megacat risk is broad-spectrum diversification, a mechanism to blend the interests and assets of insureds, insurers, reinsurers, capital markets and the federal government.
is chairman and chief executive officer of Willis Group Holdings.
October 1, 2006
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