Measuring Value in Reinsurance

Reinsurance produces value by producing stability. This can translate into higher earnings through reduced financing costs, improved access to markets, stronger product pricing and better employee job security. It can lead to a higher earnings multiple through reduction in the market price of possible bankruptcy and fewer misreadings of downwards earnings hits. Measuring these earnings and valuations effects is a developing science and for now we will only go as far as reviewing methods for measuring the stability that produces these benefits, and using these measures to compare alternative reinsurance programs. Some of the conclusions are: standard deviation and variance can be misleading measures; using any measure with combined ratio can produce distortions in the analysis; the frequency of one reinsurance program producing a better result than another is not a very useful measure. Measuring stability requires modeling. Making realistic models of insurers is a highly technical exercise with a number of possible pitfalls. Some of the technical details needed for modeling insurance financial risk are discussed.