April 5, 2016 by Canadian Underwriter
An oversupply of capital and falling demand from buyers, caused by cost-cutting in the wake of the oil price crash, is heaping pressure on insurers to the extent that they may eventually consider exiting the energy insurance market, or at least scaling back their participation, according to a report by Willis Towers Watson (WTW).
The annual Energy Market Review, which was released on Tuesday by the global advisory, broking and solutions company, noted that for the tenth year in a row capacity has increased in both the upstream and downstream insurance markets. With no meaningful withdrawals during the last 12 months, competitive pressures have intensified to the extent that some insurers may consider whether to continue participating in the market if the available premium income pool depletes further, according to the review.
But it is on the demand side that the insurance market faces its biggest challenge, said WTW in a press release. The oil price collapse has forced energy companies to cut costs and self-insure more. At the same time, underwriters have had to compete even more fiercely for the “reduced pot of premium” available.
“Although at face value this is all good news for the beleaguered energy industry,” said Neil Smith, Willis Towers Watson’s global product leader for natural resources, “as prices continue to fall we should all remember that the market has provided a stable platform to enable the smooth transfer of risk in a predictable and manageable fashion. It goes without saying that any scenario which severely impacts this balance will have negative consequences for all parties involved.”
WTW said that “at the same time, the urgent need for product innovation in the sector is clear.” The review highlighted a number of areas where this is the case, including to help manage growing environmental liabilities. “Specialist insurance products can address this threat in part,” said Smith. But recent lessons suggest that “more advanced risk transfer mechanisms, featuring limits in excess of what is offered by the conventional insurance market, are increasingly needed by the energy industry.”
One area where innovation is commonplace, noted the review, is within the realm of alternative risk transfer (ART). These risk management solutions are now being actively considered by the energy industry in part because risk managers in the sector are confronted by emerging risks that are difficult to insure against using traditional insurance solutions. These risks arise from areas such as non-damage business interruption, environmental risk, climate-related issues, reputational and cyber threats, all of which amount to billions of dollars of exposure.
Another risk that organizations in the energy sector are wrestling with is cyber, the release noted. Writing in the review, Peter Armstrong, executive director of cyber at WTW, said that “cyber risk is becoming more and more pervasive and threatens the core operations of energy companies. Organizations have a fiduciary duty to understand and quantify their exposure and make appropriate provision for it. However, most organizations are not including the quantification of their cyber exposure in the overall picture. This means that most organisations have unaddressed exposure on their balance sheets because of cyber vulnerabilities.”