Re/Insurers Need to ‘Reinvent’ Products to Participate in New Economy: XL’s McGavick

By | September 16, 2016

The re/insurance industry needs to innovate and become more efficient. It is facing more risk, but premiums are declining. Some of its products have become shop-worn and less relevant. Competitive pressures are immense.

These are just some of the negative trends facing the industry, according to Mike McGavick, CEO of XL Group, who emphasized, however, that the industry is still relevant because of its unique expertise in creating “products that lead to pools of insurable risks.”

Speaking at this year’s reinsurance Rendez-Vous de Septembre in Monte Carlo, McGavick discussed the industry’s relevance in a technology-dominated global economy.

He pointed to the fact that in 2009, for the first time in history, the property/casualty industry started growing slower in its rate of participation in the global economy’s growth – and that trend has continued ever since.

Insurance products have almost nothing to do with the risks that are being created by technology.

“There is more economic activity; in fact, we as risk professionals would also say there is more risk, and yet premiums paid to our industry are declining – and that includes a hard cycle right in the middle of it,” he said during his speech which covered the topics of “trends, cycles and disruptions.”

What’s going on? McGavick explained that the industry’s “products are becoming shop-worn and less relevant to the actual use of the clients, and unless they are reinvented, clients will continue to find them not terribly useful.”

Mike McGavick
Mike McGavick

As an example, he said that technology is connected to approximately 70 percent of global GDP, but the re/insurance industry’s solutions “have almost nothing to do with the risks that are being created by the unique dependence society now has on technology.”

“So there you are: there’s all the growth and we’re [not a participant]. If there were ever a clarion call for innovation, I don’t know what else it could possibly be,” he said.

Insurance Cycle

McGavick then commented on the insurance cycle. “The reality is we know this cycle is unsustainable. Risk is not given its full charge or price…”

And yet with the industry’s current product array, “we cannot encourage the customer to pay an appropriate price. They do not see it as useful enough to justify a full and transparent price. This is on us,” he noted.

“When we are in this phase of the cycle, the pressures are enormous; the pressures across the value chain are enormous and they grind every day.”

He said the re/insurance industry is the only industry he can think of “that does not know the costs of goods sold. Our largest portion of costs, of course, is claims and we only have speculation based on the past about what that dimension of the costs will be.”

What this means, he added, is that when the industry is wrong, “we can be wildly wrong.”

When clients are not willing to pay the full cost of their business risk, the industry slowly but surely underprices the actual risk premium, he said.

“Anybody who thinks that something spectacularly unexpected can’t happen hasn’t been alive very long,” McGavick continued. “There will be an enormous event of some kind and it is usually going to be coincident with that point in time where our comfort has gotten so great that we’re no longer appropriately charging for the risk.”

When the big event does happen, the industry once again will wake up to the actual purpose of insurance – the unexpected event – and will briefly charge the right risk premium until the usual competitive pressures return, he said.

However, the idea that the cycle is going away because the industry is so much smarter is “utter nonsense” and is “a fundamental misunderstanding of what it is we do and the inherent unknowability of all risk.”

He did think that cycles are likely to be less violent than in years past as a result of the sector’s increased knowledge, along with the availability of different forms of capital. Further, when the market hardens again, the industry is likely to “react in a more efficient way that is less disruptive to our clients, [which] would be a good outcome.”

Rampant & Wild Disruption?

Despite believing the industry is facing many challenges, McGavick does not think disruption will “be rampant and wild.” He said he thinks it is “a bit nonsensical” to imagine that the world will explode with peer-to-peer insurance that would totally dominate the industry.

He cited two reasons: regulation and the industry’s expertise, which together act to make the insurace industry “so different and so difficult.”

“We’re in the business of promises. If we don’t pay the day the promise is due, that is a horrible day,” because it “chips away at the trust that makes our product useful.”

As a result, regulators have a “very clear and useful role” in making sure that everyone who made their promise is there to pay, which is facilitated with collectivized vehicles for risk sharing that the industry already happens to have in place, McGavick explained.

While there is talk that the great analytics companies will become the new insurers, McGavick did not agree because the industry has expertise that is not manifest elsewhere.

“Think of a needle in a haystack; technology enables us much more quickly than ever … to rapidly find that needle.”

But first you need to know you are looking for a needle and, second, you have to know what to do with the needle, he continued.

“We in insurance and reinsurance know what to do with the needle. We are in the art of creating pooled products that lead to pools of insurable risks. That is not an expertise others have and it is the central expertise that matters.”

As a result, he predicted that a group of industry incumbents will maintain their position as “stewards of that expertise,” which provides enormous benefit to the progress of mankind and the functioning of the global economy.

McGavick ended his speech on these positive notes about the industry’s future.

“My view is simple. [The industry will make] all kinds of radical changes because we know our business is inherently inefficient,” he said.

But change isn’t necessarily bad, he indicated. “How we harness technology, how we work with it, all of that can lead to wonderful [imaginative solutions] about how we could make this whole ecosystem wildly less costly.”

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