21.5 Conclusion

Use cost-benefit analysis to compare reinsurance programs

  • Select metrics to determine the benefit of the reinsurance and compare to cost for each reinsurance programs

Net cost of reinsurance = NPV of expected decrease in earnings from purchasing reinsurance = \(\Delta\) PV[Expected loss - Premium - Reinstatement + Commission]

Combined ratio can be distorted due to expense ratio

Stability is the simplest measure of benefit

  • But \(\sigma\) can be misleading as they can be lowered by eliminating favorable results

Useful to look at the differences of distributions from the reinsurance options

Efficient frontier is useful

If we can measure the increase of value of the firm that would be great

  • Increased earnings from reduced financing costs

  • Higher premium from better claims paying ratings

  • Can’t do this right now so the substitute is to measure the reduction in capital requirements

Value of reinsurance can be measures vs:

  • A cost of capital, or

  • Capital (ROE)