Reinvention of the global risk distribution chain is under way—and the transformation is accelerating.
The word “disintermediation” is on everyone’s lips, but it represents a lot more than cutting a broker out of the value chain.
Developments are even more radical further up the distribution chain, and more are coming soon.
Retail brokers can’t do much to change this, but if they react carefully they may get better deals for their customers.
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It’s all about matching customers with the right capital to back their risks. Costs and coverage are critical—and information is key. The word “disintermediation” is on everyone’s lips, but it represents a lot more than cutting a broker out of the value chain. The overhaul of the way risk ultimately reaches capital is much more fundamental than that.
An obvious and immediate front-line change has already battered personal lines retailers. Agents and brokers are losing their grip on customers to virtual Internet salesmen (often dressed as cute animals like a smiling lizard or a meerkat). In 2012, more than three million U.S. auto insurance policies were sold online, and the number is surely much higher now. Agent networks are shrinking across the country, a long process initiated by Hank Greenburg’s shake-up of AIG’s distribution in 1962 and seen most recently in MetLife’s sale of its 4,000-strong employed sales team.
Developments are even more radical further up the distribution chain, and more are coming soon. As risk moves toward the ultimate insurance capital provider, especially in commercial lines, links in the value chain are being twisted, replaced and sometimes simply removed. Retail brokers can’t do much to change this, but if they react carefully they may get better deals for their customers and secure a prosperous position in the recrafted chain.
“Capital picks distribution,” says Steve DeCarlo, longtime CEO of wholesaler AmWINS. Whether that capital is a traditional insurer or a capital-markets insurance investment fund, the money calls the tune, and it has plenty of alternatives. Geico goes direct. Cincinnati uses a panel of agents. RSI uses wholesalers. Lloyd’s uses cover holders, managing general agents and wholesalers.
“Some people say we will be disintermediated because we add cost to the chain, but capital will decide how they want their products distributed,” DeCarlo says. “Some want a wholesale broker, an aggregator, to manage their distribution strategy.”
And another thing he points out: everyone in the chain—from retailers to capital—has to want to act in the client’s best interest. “If you don’t, you won’t survive for long,” he says. “Our role as an aggregator is to present an opportunity that gets sold by the retailer to the client. If we don’t do that, we don’t get paid.”
Wholesalers must offer retailers the best deal for their customers. That may be judged on price, coverage, attachment points, service, claims, the carriers’ ratings or probably a combination of all of these. If they can’t offer a better insurance product, they go unremunerated.
“Because of that, as a wholesaler, by definition I don’t take money out of the chain,” DeCarlo insists. With about 26,000 retail brokers and more than 1,000 underwriting companies on AmWINS’ books, rumbling talk of the death of the wholesaler seems overblown.
Customers and Costs
The world is changing dramatically for the people who provide insurance capital and pick the distribution method. Their trading environment is characterized by unprecedented competition. Traditional underwriters are facing down a massive challenge from new capital with different agendas, sometimes including lower expectations for long-term investment returns. In the background, customer loyalty is largely a thing of the past.
Two themes dominate their distribution concerns, says Andrew Bustillo, president and CEO of New York-based BMS Re U.S., part of London wholesaler BMS Group. First is satisfying all of each customer’s insurance needs, including their need to cover exposures that either don’t match the insurer’s risk appetite or fall short of its threshold return targets.
“Challenge number one—how to handle all of a client’s needs—is about defending and servicing those clients with risks and exposures that the carriers want to write,” Bustillo says. “If they can’t achieve this, they are at a competitive disadvantage compared to other forms of risk capital or to brokers who say they can take care of everything.”
The second theme is the cost of distribution and, in the process, obtaining the risk data they desire.
Easing costs inherent in the distribution chain while collecting all the data needed for analytics and regulatory reporting is “an extremely hot topic,” Bustillo notes. “A local retail broker may go to a wholesaler who may go to an MGA or another distribution source before the risk even gets to the risk taker,” he says. Everyone’s slice of the premium pares it down before it reaches capital providers, who want to reach the ultimate customer more cheaply and more efficiently and capture more data along the way. Thus, Bustillo says, “the traditional linear model is under cost pressure.”
Some people say we will be disintermediated because we add cost to the chain, but capital will decide how they want their products distributed. Some want a wholesale broker, an aggregator, to manage their distribution strategy.Tweet
Rise of the MGAs
Bustillo expects underwriting companies to address these challenges by creating alternative structures to sell insurance through wholly managed but separate underwriting facilities. “They will own the managing general agents,” he declares, citing the example of Nephila, an alternative capital provider that raises underwriting investment through pension and hedge funds. With almost $10 billion of capital, it is the largest alternative capital player in the market. Originally the brainchild of Willis, Nephila comes up in almost every conversation about changes in the distribution chain.
It has set up an MGA called Velocity Risk Underwriters to get direct access to insurers’ U.S. wind catastrophe exposures. Fronting specialist State National provides the paper, and the deal is intermediated through an arrangement with DeCarlo’s AmWINS.
In 2016, Velocity assumed the risk under tens of thousands of wind-only policies underwritten by Florida’s Citizens Property Insurance Corporation under a “takeout” deal.
Steve Evans, publisher of industry blog Artemis, says by leveraging a fronting-style insurer and its own MGA to effect the takeout, Nephila reduces frictional costs and enables its capital “to get closer to the source of risk” and to save on broking costs.
“For Florida residents, the takeouts not only pass the risk on to private insurance and risk markets but also reduce the load on Citizens and lower the chance of the state-established insurer suffering a particularly bad hit when the next hurricane hits,” Evans explains. “The changes to the distribution chain that we’re currently seeing, as evidenced by Nephila and other ILS managers’ work, ultimately benefit the insurance consumer, as they are removing some layers of intermediation costs out of the equation.”
Traditional insurers are also establishing MGAs for the same reasons: to reduce costs but also to get closer to customers while retaining the risks they want (maybe auto and GL) and handing off the rest to specialists (perhaps earthquake or cyber). They may have some of their own capital backing their MGAs, but typically much of the risk is placed with others. Insurers adopting this strategy can become a one-stop shop, leveraging their policy processing and claims facilities.
“The winners will be those risk-taking balance sheets that move closer to the customer by providing mechanisms to be able to control all of a client’s risk,” Bustillo says.
Rarely a week passes without some new MGA appearing on the scene. AmWINS’ DeCarlo says MGAs that keep their focus on underwriting and protecting their capital-providers’ balance sheets will be successful.
While the rise of MGAs does threaten to remove links in the distribution chain, plenty of space remains for wholesale brokers, provided they don’t just “act as a post box,” says Bustillo. Wholesale brokers are one of the main ways retailers can gain access to MGA capacity. As Bustillo says, they must “create value along the way, on the client’s behalf, working on coverages and risks that are important to the client. Those that don’t will face challenges.”
Broker Platforms—The Digital Squeeze
One such MGA is Ascent Underwriting, a niche operation that specializes in cyber insurance and other specialty lines like healthcare regulation. Most of the business it underwrites reaches its London operation through conventional wholesale relationships. But Optio, Ascent’s online quote-and-bind “broker platform,” allows producing brokers with a U.S. E&S license to go straight to the MGA and its Lloyd’s capacity. Wholesale Lloyd’s brokers’ involvement in the transaction is limited to the introductions, for which they receive retrospectively a small commission for bound risks.
Ascent chief executive David Umbers describes the system as “a service for brokers, providing instantaneous document issue and requiring no manual processing. It’s a user-friendly no-brainer.” For the Lloyd’s-based insurer MS Amlin, Ascent’s lead capacity provider, and for the MGA’s other insurer backers, the system creates a new stream of premium income from small U.S. businesses that probably wouldn’t reach Lloyd’s through the conventional distribution chain due to the friction created by its inherent costs. “Our platform provides a distribution extension for business that a Lloyd’s syndicate would not otherwise benefit from,” Umbers says.
A similar broker platform was launched directly by Tokio Marine Kiln in late July. The Lloyd’s insurer describes its system, dubbed “One TMK,” as a “digital exchange for brokers to quote and bind policies online in real time.” At launch, it supported only cargo insurance for registered U.K. brokers, but the intention is to rapidly expand the online product and geographical offering. “Our first objective is to continue adding products to the platform,” says TMK’s head of innovation Tom Hoad, noting that demand exists for more electronic transacting, “so we’re hoping to add other features to this broker-driven platform.”
TMK chief executive Charles Franks, explaining some of the reasoning behind the initiative, says high costs and inefficiencies have caused troubles throughout the insurance market. “This will help brokers reduce the time and cost of getting quotes and policies to clients,” Franks says, “and it will help us to move closer to our customers.”
The changes to the distribution chain that we’re currently seeing, as evidenced by Nephila and other ILS managers’ work, ultimately benefit the insurance consumer, as they are removing some layers of intermediation costs out of the equation.Tweet
Wholesalers Revive Facilities
Another significant change in distribution is the reintroduction and widespread promotion of “facilities,” which readers with longer memories will recall as broker binders or lineslips. With this vehicle, wholesale brokers take greater control of the distribution process by enlisting multiple carriers to assume a specified share (no matter what) of any risk of a certain type that the broker chooses to insure through the facility. These usually have a lead underwriter. Additional insurers on the facility accept the terms and conditions set by the leader and the broker without further consideration of the risk.
One of the newest facilities was introduced recently by Marsh. FL ECHO is the latest in its ECHO suite of facilities and offers excess lines of up to $105 million to U.S. buyers of D&O and other professional casualty classes. It places primarily at Lloyd’s with other London market supporters.
The arrangement is only the latest of many. Much hoo-ha greeted the March 2013 launch of a deal between Aon and Berkshire Hathaway International Insurance Limited. Warren Buffett’s mega-insurer automatically took, as a follower, 7.5% of any retail subscription insurance contract that Aon Risk Solutions placed into Lloyd’s—if the client wanted it. About a year ago, the insurer pulled out of the arrangement (though it remains involved in several others), as it built its own specialty insurance division—Berkshire Hathaway Specialty Insurance.
No doubt Buffett’s insurance behemoth could have gleaned much detailed risk knowledge and pricing discovery for its new venture from its brief involvement as an automatic follower of Aon’s Lloyd’s placements. So the move to build its own specialty insurance provides a prime example of high-level capital moving down the chain to get closer to the customer.
To say the least, “facilitization” has been controversial. Steve Hearn, CEO of wholesaler Ed (which until September was known as Cooper Gay Swett & Crawford and which runs some facilities of its own), shows only limited enthusiasm for what he describes as the “current abundance of facilities and lineslips.”
Without doubt, he says, they have the potential to “capture huge swathes of homogeneous customer business and to realize economies as they do so.” But for atypical risks, they may not be appropriate, he says. “Getting the customer into the right home with the model’s inherent challenges and conflicts of interest is not without
its potential issues,” he admits, although he is optimistic that the market has sorted out the latter concern.
Facilities do, of course, provide capital with easy access to large, low-cost portfolios of risk. They must look attractive to non-insurer investors like Nephila, which want to get efficient access to insurance risk. They also generate reams of risk information, which in the hands of a dynamic broking organization could be used to disintermediate insurers that may have an interest in the class of risk but not the facility.
That’s already happening to a degree as some smaller underwriters in niche lines, those who have not elected to participate in relevant facilities, are beginning to find following lines less accessible than before. But so far, at least, no big move in this direction has occurred.
And Hubs Pull Business from London
A geographical shift means a lot of business is now being handled much closer to home. Regional underwriting hubs have been emerging for more than a decade but are now challenging the supremacy of London for some international risk classes (just as Bermuda did, first for U.S. casualty risk, then for catastrophe reinsurance).
One of the more established hubs is Singapore, the key center for large commercial risks and reinsurance from across the Far East. In contrast, but with the same function, is Dubai, which has only recently emerged as the underwriting hub for the Middle East. Lloyd’s has established underwriting rooms and a solid presence in both, as well as in Miami to service Latin American risks. With Britain set to leave the European Union, Zurich has an opportunity to develop its already-important insurance sector as a new hub for the European Union.
Alex Becker, a marine underwriter with MS Amlin, has worked in the insurer’s Singapore office and currently is the marine underwriter in its Dubai office. He says the reasons for establishing the local underwriting offices were three-fold. “We came to build new relationships and to underwrite business we were never able to see in London, business that was developed locally,” he explains.
Second was the defense of business that had previously been underwritten in London but which no longer wants to stray across the English Channel so far from home. “More business is being repatriated back to local markets, sometimes because the capacity that was in London is now local and sometimes because the expertise is now local too.”
Finally, underwriting in hubs keeps acquisition costs down because it allows Amlin to deal directly with local retail brokers and ceding insurers rather than operate through wholesalers.
The winners will be those risk-taking balance sheets that move closer to the customer by providing mechanisms to be able to control all of a client’s risk.Tweet
Moving closer to the business in this way doesn’t work for everyone. Atrium Underwriting, a long-established Lloyd’s insurer now jointly owned by Enstar Group and Stone Point Capital, opened an underwriting office in Singapore in 2009. In July this year, it shut down the operation and put its marine, aviation and transport book there into runoff. The operation hadn’t grown sufficiently, Atrium chief executive Richard Harries says, so the business it wrote there will now be underwritten in London.
Hubs, of course, are the enemy of wholesale brokers who bring risks from far-off lands to sedentary underwriters across the world. Unless they change their strategies, it’s game-over for the wholesalers who survive on such fare and for the capital they feed, many in the industry believe. The brokers must find new roles and new ways to facilitate the introduction of the right customers to the most appropriate capital with the very best offer as efficiently as possible. That’s everyone’s challenge in the new distribution chain.