Courtney Claflin, executive director of the University of California captive programme, gives insight into how he built up their captive reinsurance programme

As the hard market has an impact on the entire insurance industry, Claflin says he started preparing for it years ago.

Courtney Claflin (CC): I was on a panel at one conference and they asked: “When do you start preparing for a hard market?” My answer was simple, I said I started preparing for it the first day I came to work for UC because it’s inevitable that we’re going to hit a hard market. The question is just how hard is it going to be, and for how long. One of my main goals when I got here was to build the most diversified captive portfolio we could and to build up as much of a surplus as we could to be prepared for a market like we are experiencing today. We all know hard markets are inevitable, as the sun comes up and as the sun goes down, there’s going to be a hard market at some point.

If you’re prepared for this then financially you can weather the storm. I’ve had conversations with a few captive owners where they’re just stuck. They say they don’t have enough surplus or financial strength to fill gaps in coverage or provide direct reinsurance to their parent, thus necessitating a capital call to the Parent. That’s unfortunate but it does happen in our industry as lack of capacity and gaps in coverage become common.

Hard and soft markets are cyclical, and with today’s analytics you have tremendous resources to see what’s coming, so you’ve got to prepare for it. This year, we got absolutely crushed on our reinsurance renewals. Our self-insured retentions increased 250% due to the reinsurance market, and frankly we had no choice in the matter. Our capacity, meaning our limits, were also reduced by up to 30% in some instances. There were also new coverage exclusions on some significant lines of coverage, resulting in the captive providing direct insurance with no reinsurance backstop.

I was really, really proud of the fact that we built a very strong portfolio of insurance companies where the captive(s) step up and and provide direct coverage as well as capacity in the towers of limits where there’s gaps between reinsurance attachment points.

Part of what triggered Claflin to look at expanding the captive platform to provide direct reinsurance was a reflection of the complex risk profile of the University system and the decrease in reinsurers risk appetite.

With 10 campuses, five academic medical centres, three national laboratories, 280,000 employees, and over 350,000 students, UC is a complex risk to the reinsurance markets. We also invent five things a day, we have 11,000 national and international patents and commercialise 150 new companies a year.

We’ve got all this risk that reinsurers may not particularly like, because a lot of it isn’t frequency risk, like work compensation or general liability or automobile. We also have a massive exposure to catastrophic loss. Reinsurers, particularly in a hard market, tend to be much more conservative in where they deploy their capital and for complex risks like UC, they may be reluctant thus we have to fill the void.

There are also some really clever things that you can do when you build a captive insurance and reinsurance programme.

The captive is also helping us participate in the Terrorism Risk Insurance Act (TRIA) for the first time in quite a while. In the past we have purchased cover in the private markets which allowed us to avoid the massive deductibles to UC via TRIA.

We can elect to have TRIA and buy reinsurance that wraps up the deductible for both certified and non-certified acts of terrorism. So, we use the captive to purchase reinsurance, that works like a wrap that covers that TRIA deductible and then we access TRIA.

If the government doesn’t certify it as an act of terrorism, I’ve got a separate tower for non-certified terrorism from dollar one. I just went from a massive deductible exposure with TRIA to one that is far more manageable. The end result is that we have both certified and non-certified cover and our cost basis went down significantly. It’s a really cool arrangement and it’s a more efficient way to finance the terrorism risk with a captive vs purchasing private insurance from the market.

Claflin also says that building a financially strong captive platform provides additional benefits when big claims occur.

We have reinsurance but it is paid on an indemnity basis vs pay on behalf basis. This means reinsurers reimburse us for the claims. So as a captive, as the insurance company, I have to pay catastrophic claims out before the captive is reimbursed from the reinsurers. Planning for this and having a financially robust captive platform is essential when you have significant catastrophic exposures.

Absent this financial strength, you’ve got to go back to your parent with hat in hand saying we don’t have enough insurance or surplus to pay this upfront, we need money from the parent. So it can get really tricky when you have significant losses or series of losses. It’s just a very interesting market today and I’m proud of how much we’ve stepped up to help UC by providing coverages, and limits  due to the lack of reinsurance or the limited amount of reinsurance.

Claflin says that the reinsurance market is hurting right now, and the market could get worse.

It’s just very interesting how much we’ve had to step up, provide coverages and limits to the university because of the lack of reinsurance or the limited amount of reinsurance. The reinsurance markets, they’re hurting. And I get it, I understand it, I harbour no ill will to them. It’s just the nature of the beast, It’s a cycle. My job is to prepare for it. It’s kind of like growing up in North Dakota on the Canadian border. I know it’s going to snow, and you have to prepare for that. I have to tune up my snow blower, I’ve got to make sure my shovels are out of the attic in the garage, I need to make sure I put the snow tires on my vehicles. You know, it’s just preparation.

As an insurance company, we have to continue to plan for the hard market. I don’t think it’s not going to get better, and it potentially could get worse for a few years. But eventually reinsurers will stabilise financially, and get back into the competitive market and then you will begin to see better pricing, terms and capacity. We also tend to see new capital enter the industry during hard markets so hopefully that will help offset the duration of this market.

We’re also keeping watch to see if the government’s going to put together a TRIA-like programme for pandemic risk. I’m not up on the latest developments but I know there’s legislation being proposed for that at the federal level. Like every other organisation, we have lost a significant amount of money through this pandemic further highlighting that some risks are too big for the insurance and reinsurance industries and need the Government to step in with help.