How Reinsurance Reshapes Reserve and Premium Risk
By Jonas Mohamed Osman Abdelghafour
Modelling the net position properly: non-proportional structures, reinstatements, counterparty risk and the timing of recoveries.
Executive answer
Reinsurance changes the shape of the loss distribution, not just its mean. Modelling gross risk and applying an average recovery ratio destroys exactly the tail information that the reinsurance was bought to manage, and typically overstates the capital benefit at the mean while understating it in the tail.
Structural features that matter
Per-risk and per-event limits, aggregate deductibles, reinstatement premiums, indexation clauses and hours clauses all interact with the loss distribution non-linearly. Each should be applied at the simulated event level so that the net distribution reflects the actual contract rather than a linearised approximation of it.
Recovery timing and counterparty risk
Recoveries arrive later than payments, so the net reserve-risk position includes a timing and credit element. Concentration with a small number of reinsurers, and correlation between a large loss event and reinsurer stress, deserve explicit treatment rather than a flat default assumption.
Governance considerations
The reinsurance purchase decision should be tested against the modelled net distribution at several return periods, and the model used for the decision should be the same one used for capital reporting. Divergence between the two is a recurring supervisory finding.
Conclusion
Net risk modelling is where contract detail meets statistics. The detail is not administrative trivia; it is where most of the answer comes from.
Primary sources
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