Current global conditions mean risk and insurance managers' decisions are facing greater scrutiny. How can they uncover the opportunities within their insurance and risk budgets and defend the business against underinsurance?
8.8% forecast for global inflation to peak in 2022 (IMF).
The International Monetary Fund (IMF) has forecast global inflation will peak in late 2022, increasing from 4.7% in 2021 to 8.8%, and remain elevated for longer than previously expected. The IMF also predicts global growth slowing, from 3.2% this year to 2.7% in 2023.1
These conditions make corporate planning more challenging, putting finance directors under pressure to conserve cash, and potentially requiring risk and insurance managers to justify their budgetary allocations just as the demand for insurance is going up.
Inflation is expected to impact insurance programmes in several ways:
What level of loss would threaten your organization? Expressing this through the key financial metrics most useful to the organization connects the risk strategy to the business financial priorities. This clarifies the decisions on risk financing versus insurance purchases, and the levels of risk to retain.
For example, setting the risk tolerance as 5% probability of earnings per share (EPS) falling below $0.75 directly links the risk strategy to the CFO's objectives. This also creates a common financial framework for communicating with key stakeholders and demonstrating the value of risk investments.
Use past data to estimate the losses expected in the future for each risk. Where the organization has no historical data, for example around cyber risk, use expert judgment or crowdsource the likelihood and impact of different risk scenarios.
Actuarial models can help quantify not only an average estimate of the likely losses in a future time period but also the volatility of the losses. This can result in outputs such as: “We expect $5m of losses next year but there is a 1-in-100 likelihood the losses could exceed $125m.”
Where the risk is insurable, this can help the organization decide the levels of insurance to buy, and what they can expect to retain on the balance sheet with different deductible levels. Analytics can also show which option would result in the lowest TCOR.
Inflation is not likely to hit all risks in the same way. Looking at all risks together at a portfolio level will help you identify the potential opportunities given this reality.
There could be potential for arbitrage, for example, buying higher limits or reducing deductibles where pricing is cheaper and vice versa. Where insurance market conditions are inefficient, it might even be possible to reduce the total spend while maintaining, or even reducing, the total risk.
This can be extended further to look at not only insurable risks but all risks. Perhaps the most efficient use of the risk budget is a greater focus on reducing those risks that cannot be transferred to the insurance markets. For example, the risk budget could be better utilised in diversifying supply chains, or installing sprinklers in certain premises.
Inflation and growth expectations will keep changing, new risks will continue to emerge, and risk strategies will have to keep evolving with the times.
However, having a proactive, analytical, wide-angle framework in place will ensure risk and insurance managers are addressing the external environment from a position of strength, one that better equips them to protect their organizations from underinsurance and reveals the optimization opportunities.
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