Novation Helps Captives Counter Inflation Concerns

Hero image

Captive insurance companies rely on predictable reserve development for stability and growth. The impact of inflation, however, can threaten the adequacy of legacy reserves.  A 2% inflation shock on a sample portfolio shows the degree to which expected reserves and post-inflation reserves can deviate significantly, reaching nearly 20% in several recent years.

Inflation Impact on Legacy Liabilities, a Guy Carpenter briefing, provides additional insights on the ways Guy Carpenter can help captives limit their overall exposure to inflation risk for each legacy policy year.

Guy Carpenter has helped provide relief from these pressures by structuring and executing a large novation of prior-year liabilities from the captive client to third-party legacy reinsurance markets. This allowed the captive the ability to release significant amounts of reserve, eliminated collateral obligations of novated years, and removed inflation risk connected with the subject accident years.

Novations can be secured for a collection of years or one year at a time. Additionally, novations can include a “rolling” feature that annually allows a new policy year to be added to the existing novation structure as they mature. Each policy year’s liabilities would then “roll” off the captive’s book on to the balance sheet of a third-party reinsurer after the policy year reaches a certain age/maturity. This approach removes legacy liabilities from the captive’s balance sheet altogether and eliminates inflation risk within aging reserves.

In addition to novations, legacy solutions can include loss portfolio transfers and adverse development covers. The captive’s risk appetite and underlying structure are key factors in selecting the legacy solution that is most appropriate.

Guy Carpenter’s Captive Segment consists of a team of dedicated professionals committed to developing tailored prospective and retroactive (re)insurance solutions for a diverse landscape of single parent, group and agency captive clients.


Inflation Impact on Legacy Liabilities

Captive insurance companies, like traditional insurance carriers, have always kept a watchful eye on risks that can threaten the adequacy of their legacy reserves. In recent months, inflation has been gaining significant attention.