1. Page 1 Retrocession vs. Alternative Markets in Managing a Reinsurers Accumulations Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

2. Page 2 Initial Summary Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re There is an ample supply of capital to service the catastrophe capacity requirements of any emerging market Emerging markets present an attractive opportunity for further reinsurance or ART market diversification It makes long term economic sense for any developing economy to take advantage of this capital

3. Page 3 Agenda Introduction –Some key points Interpretation of who a “National Reinsurer” might be Transfer mechanisms for attaining Nat Cat capacity and diversification –Traditional reinsurance/retrocession –Alternative market solutions Summary Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

4. Page 4 Introduction Swiss Re is a large Global Property, Casualty, and Life Reinsurer with over 29 Bn (CHF) earned premium volume. In addition to traditional reinsurance Swiss Re has been a leader in facilitating Alternate Risk Transfer (ART) solutions including being active in the development of the insurance linked-securities (ILS). Swiss Re has sponsored independent studies throughout the world and has dedicated internal resources into researching natural catastrophes Swiss Re has partnered with many non-profit organizations in making our expertise and experience available to support governments and society in developing strategies to mitigate the effects of natural disasters Progressive failure on the North Anatolian fault - Ross Stein USGS Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

5. Page 5 Key Points There is an ample supply of capital to service the catastrophe capacity requirements of any emerging market This capital can be accessed through traditional Reinsurance, Retrocession or through various Alternative Risk Transfer markets including the Capital Markets Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re Emerging markets present an attractive opportunity for further Traditional or ART market diversification There are only a few regions where the the peak amount of traditional reinsurance may be too concentrated Throughout most of the world the opportunity to diversify is attractive and cost effective to resinsurers and cedants alike

6. Page 6 Key Point - Capacity at need? TC Atlantic (*) EQ California (*) WS UK TC Japan EQ Japan EQ New Madrid (*) EQ Canada WS France EQ Australia EQ Italy EQ Mexico WS Germany EQ Portugal EQ Columbia EQ Israel WS Netherlands EQ South Africa WS Belgium World wide coverage (*) Estimated split based on SR book Ideal level reinsurance would take for optimal diversification World wide peak risks are an issue for the reinsurer prompting their need for more diversification and required capacity. Peak risks would ideally be ceded to capital markets, which are better able to diversify these risks Source: Swiss Re There is approximately $24 Billion US in available catastrophe capacity Approximately $3 Billion in Insurance Linked securities Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

7. Page 7 Key point Is there sufficient cat capacity available? The availability of traditional Natural Hazard catastrophe capacity is basically a function of: –Accessible capital compared to exposed equity loss potential –Realized rate vs. expected loss, expenses and cost of capital –Diversification and appetite for “peak” risk in relation to the above expected loss based on loss experience, underwriting expertise and application of sophisticated cat models External costs (commission, brokerage) Expected profit before tax Earned premiums Internal expenses Taxes Economic profit Expected profit after tax Minimum price covering all fixed or expected costs = “technical price” Cost of Capital Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

8. Page 8 Traditional reinsurance protocols suggest that reinsurers use retrocession covers to expand capacity, diversify, and reduce exposures Interpretation of who can act as a “National Reinsurer” Property Owner Insurance Company or Insurance Pool Local Reinsurer Reinsurer National Government World Bank Insured Insurance Policy Reinsurance treaty Retrocession In the current environment any one of these entities could act as a National Reinsurer and seek reinsurance, retrocession, or alternative risk transfer support A National Government often acts as a reinsurer of last resort Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

9. Page 9 Insurance Company Reinsurer National Government World Bank Insured Capacity and Diversification There are two main reasons for seeking Retrocession or Alternative Market Support Reduce loss potential Increased need for capacity - expand the capital base in situations where the potential loss exceeds the financial capability of the risk bearer to absorb losses –Sharing/expanding of capital increases the insurer/resinsurer’s ability to absorb additional risk Diversification of exposure - the ultimate goal of insurance and reinsurance is to spread the risk. –Diversification leads to more efficient pricing, increased capacity, stability, and sustainability There are two main reasons for seeking Retrocession or Alternative Market Support Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

10. Page 10 Turkish Catastrophe Insurance Pool - TCIP Insurance Pool - TREIP Indonesian Earthquake Reinsurance Pool - IERP EQ Council - EQC New Zealand California Earthquake Authority - CEA Alternative Risk Transfer Markets What are they? Risk Carriers Self insurance / captives Risk retention groups Pools Captive markets Solutions Finite Risk re-insurance Contingent Capital Multi-year / Multi-line products (MMP) Multi-trigger products (MTP) New Asset Solutions Weather Derivatives Securitization / Insurance-Linked Securities (ILS) Alternative Risk Transfer Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

11. Page 11 Alternative Market Solutions Finite Risk re-insurance –Smoothing mechanism where risk transfer, financing and the time value of money is emphasized Contingent Capital –Contractual commitment to provide capital in the form of senior debt, etc. after an adverse eent Multi-year / Multi-line products (MMP) Multi-trigger products (MTP) –Consolidate and combine uncorrelated risks with a trigger that is highly correlated to financial circumstances Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

12. Page 12 New Asset Solutions (Structured Finance / Asset backed Securities) –Raising capital through the securitization of future cash flows Weather Derivatives Securitization / Insurance-Linked Securities (ILS) –Innovative way of increasing insurance capacity by accessing the capital markets via bond issue. Capital received is transferred to a special purpose vehicles SPV who then acts much like a traditional reinsurance company. –Most ILS are natural catastrophe driven due to the ease and transparency of identifying, isolating, understanding, evaluating the risk Securitization / Insurance-Linked Securities (ILS) Alternative Market Solutions Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

13. Page 13 Insurance Linked Securities CedantReinsurer Premium Cat Cover Bond Investors Special Purpose Vehicle (SPV) Bond Coupon Bond Proceeds Traditional reinsurance or retrocession is an exchange of premium for a transfer of risk cover. In all but a few of the “peak” exposed areas of concentration, reinsurance is still considered as the most economical and efficient risk transference of choice. The majority of ILS transactions to date have involved catastrophe bonds. Typically three parties are involved. Investors purchase bonds from the SPV which simultaneously enters into a reinsurance contract with the cedant. The sole purpose of the SPV is to engage in the business relating to the securitization. One of the main differences is that a traditional reinsurance program’s pay out is activated by the cedant’s actual sustained losses. An ILS limit is paid immediately upon the occurrence of a predetermined trigger and is priced according to the limit and event exceeding probability. Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

14. Page 14 Retrocession or ART Increase surplus/capacity to assume risk –Corresponds to the ability to increase volume Reduce risk –Transfer loss potential to another Stability –Mitigate fluctuations in revenue or growth Diversify portfolio –Optimize return/loss levels In many ways the same motivation exists for purchasing a retrocessional cover or ART product Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

15. Page 15 Acceptance of ILS On top of a $2 Bn existing portfolio in 2002 To date most ILS transactions are in regions with high severity, low frequency, peak exposures, and further need for diversification Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

16. Page 16 Combined Art and Traditional in Peak Exposed Areas Often an ILS is combined with traditional reinsurance and retrocession in order to expand capacity and diversification Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

17. Page 17 Expected Loss and Realized Return or Selected Insurance- Linked Securities and Swaps Indicative technical reinsurance pricing for peak cat areas Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re In most cases the ILS is more costly then a traditional cover

18. Page 18 Some comparison features of ART vs Traditional to an Emerging market Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

19. Page 19 Concluding observations - Emerging Markets Source: Swiss Re Local Reinsurance and insurance markets are underdeveloped making the government a reinsurer of last resort - exposures hard to identify –Developing Risk awareness, transfer and mitigation strategies Low frequency/high severity events could endanger the financial being of the local reinsurer or state Low country GDP - actual loss devastating in terms of % GDP and future sustainability Need for immediate post event liquidity High capital demands for necessities Makes economic sense Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re

20. Page 20 Example* GDP$13.7 Bn.(2001) 5 earthquakes in the last 20 years 1986$2.3 Bn (US) 2001$1.7 Bn (US) Other losses $. 4 Bn (US Total $4.4 Bn Average Loss $ 220+ Million per year Maximum Loss $2.3 Bn What if? Country hedges itself through traditional or ART markets by purchasing a $2.5 Bn cover with a $100 MM retention Pure risk premium$28 MM per annum Annualized deductible $20 MM Capital and other costs ?? Pure risk premium$28 MM per annum Annualized deductible $20 MM Capital and other costs ?? $14 MM Average Loss $ 60 Million per year Maximum Loss $100 MM * Not an offering or exact analysis

21. Page 21 Final Summary There is an adequate supply of capital to support the catastrophe capacity needs of the merging markets Reinsurance/Alternate Risk Transfer mechanisms promote financial sustainability by reducing economic volatility due to Nat Cat shock losses Both the Traditional and Capital segments offer a variety of solutions and are eager to diversify into new cat markets. Reinsurance makes economic sense Natural Disasters World Bank - June 2-3 Andrew Castaldi - Swiss Re