Cyber Risk in Reinsurance
February 12, 2025
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We are now aware that reinsurance companies are created especially for taking up risk from other insurance companies. Most people believe that this is the end of the value chain. This means that the risk stays on the books of the reinsurance company till it is extinguished. However, this is not the case.
Reinsurance companies do not necessarily have to hold every risk that they have on their books. In fact, it is quite common for reinsurance companies to share their risks with other reinsurance companies. This process is called retrocession. In this article, we will have a closer look at what retrocession is and what the benefits of retrocession are.
As mentioned above, retrocession is the transfer of risk from one reinsurance company to the other. The reasons for entering into a retrocession contract are the same as the ones for purchasing a reinsurance contract in the first place.
It is important to note that reinsurance companies can share their risks with another reinsurance company or they can decide to share their risks with an entire pool of reinsurance companies. This is generally done when the reinsurance risk being undertaken is so large that it passes the risk threshold of reinsurance companies.
Reinsurance companies undertake retrocession for a wide variety of reasons. Some of the important reasons behind retrocession have been included in this article.
Retrocession is a mechanism that can be used to lessen the risk burden. This allows the reinsurance company to underwrite faster without being afraid of being stuck with the wrong kind of risks.
A smaller reinsurance company can underwrite the exposure of a large client and then can decide to use retrocession to split their exposure at the backend with several other reinsurance companies. This creates a situation where there is increased competition in the industry and the consumers have more options.
The concept of retrocession creates a secondary market wherein companies can buy and sell exposures in order to help them manage their regulatory obligations better.
Similarly, if a reinsurance company wants to enter a new geographical market, they do not have to undertake customer acquisition by selling reinsurance policies one at a time. They can use the retrocession market to build exposure which helps them get a head start in the market. Hence, it can be said that retrocession provides reinsurance companies with the flexibility they need in order to make strategic decisions.
The bottom line is that retrocession is an important tool that is strategically used by reinsurance companies today. In the future, it is only likely that the market will become more developed and liquid.
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