How can risk managers be confident that international claims will be paid should the worst happen?

Let’s assume your company has just established a warehouse full of high-value goods near a port on China’s coast. Now, domestic insurance regulations require that at least 20% of the risk is retained within China. But where should you place that risk with confidence?

If the worst happens, risk managers want to be confident that the local firm hasn’t sold the exposure so far down the line that they don’t know where it lies.

In more established insurance markets, it is unusual for regulation to prescribe the retention of a portion of the risk with a local firm; thus 100% of the risk is usually transferred out of the market.

However, in more protectionist economies, domestic laws often require that a percentage of the risk is held within the country.

Variations of this exist in many countries but one stand out are the so-called CIMA Code nations, mainly 14 countries in francophone Africa such as the Ivory Coast, Senegal and Burkina Faso, with a retention of 50%.

Rules requiring local retention in Asia, in countries such as Vietnam, India, China and Myanmar, range from 18 to 30%, but similar rules exist in Latin America.

A snapshot of retention practices in some of the other Asia Pacific countries shows it is 0% in Thailand, Singapore, South Korea, Japan, Australia and New Zealand. Elsewhere it varies wildly, for instance 2.5% in Malaysia, 30% in Myanmar, whilst in Indonesia, the rates average quite high with the actual ratio being decided on a case-by-case basis.

The reasons for local retention vary from country to country and even region to region within countries. Sometimes it comes down to protectionism of a local market with small local insurers against large international insurers.

At other times it’s a question of control by the state regulator and also as a capital outflow stop gap. Or it is simply the propping up of a local market with limited capacity and expertise.

Disputes

Whatever the reasons, risk managers don’t want their local insurance coverage spread so widely among domestic firms that they are not sure where it is. In some countries, as much as half the risk can be sold down, like pass the parcel, and coverage becomes too fragmented.

The reason the practice makes risk managers nervous is what might happen in the event of a claim. If too many firms hold the risk, some – or even all – of them may be reluctant take the lead in settling the claim, which can then drag on interminably.

Disputes can arise over a wide range of issues. Typically, there are disagreements over whether the policy covers the specific nature of the claim, or whether there should be a sub-limit. Whatever the issue, if too many local firms are involved it can lead to what might be called decision gridlock. There are actual cases where more than 20 firms share the exposure and they cannot reach agreement on even minor issues, due to each only holding a very small share of the risk and thus none is willing to take the lead.

This is extremely frustrating for the risk manager who, quite rightly, expects a claim to be settled within a reasonable period of time. After all, his company has its own problems relating to the settlement, for instance tax and profit considerations. If an important sum is involved, it can cause tensions back at headquarters.

The client needs certainty.

One or two

In countries where local retentions are the norm, Zurich prefers to work with the leading one or two firms in the country. This provides us with an important degree of comfort – we like to know who we’re dealing with.

Once we start engaging with local firms on how best to insure important offshore assets, Zurich works to a set of priorities on behalf of the client.

Firstly, there must be a robust claims protocol in place. Secondly, if the exposure is to be sold down, the individual firms must realise they are elements in a larger structure whose purpose is to meet their obligations.

Thirdly, it’s important that risk managers sit down with the arranger of the program and agree on a system for managing any issues that might arise.

This last one is of crucial importance. Overall, risk managers should have a full insight into the entire insurance process. For instance, if problems were to occur, where might the sticking points be? How should they be dealt with?

In retention markets, its vital to understand their particularities. You cannot beat local knowledge.