Business interruption test case, COVID wave lockdowns & reinsurance exposure

Reinsurance and also retrocessional exposure to the COVID-19 pandemic may rise if the final judgement in the UK Financial Conduct Authority’s (FCA)’s business interruption insurance test case goes against the industry.

But that’s not the only current threat, we understand, as new waves from the pandemic are also likely to test contract terms and have the potential to see some reinsurance coverage come into play.

First the UK business interruption test case, which has been at appeal and a judgement on this from the Supreme Court is due this morning at around 9.45am (UK time).

Should the test case rule in favour of policyholders and against the insurers remaining involved, it’s possible that some carriers may be able to claim support for making business interruption claims from their reinsurance program, likely including catastrophe covers where they can.

The initial judgement from the UK High Court was made in September and found largely in favour of insurance policyholders in the FCA’s business interruption insurance test case.

After that, a number of insurance carriers quickly said that any additional claims would be expected to cause further reinsurance recoveries, some under specific catastrophe covers.

The judgement quickly went to appeal though and while a number of insurers are specifically named in the list of judgements to be handed down today (Arch, Argenta, Hiscox, MS Amlin, QBE, RSA) it’s reported by Reuters that the case itself has relevance for some 700 types of insurance policies, around 60 insurance companies, affecting 370,000 policyholders and potentially billions of pounds in claims.

With the examination of business interruption clauses and policy wordings complete and now appeals heard, the industry awaits this mornings judgement with some trepidation.

Not least as the ramifications could be far-reaching for some (especially any that are less prepared, or reserved), in terms of flowing through the market should a wave of pandemic related claims suddenly be validated.

Analysts have said the named insurers do, in some cases, have reinsurance programs that should respond to the judgement (Hiscox cited as one), if claims are validated, while some of those recoveries could be under specific catastrophe programs.

The industry, including insurance-linked securities (ILS), has done a significant amount of work to reserve for and side-pocket potential pandemic business interruption exposure, meaning a lot of the potential downside is baked in.

But until the test case outcome is announced there isn’t really any idea of how much of those reserves will go to claims, or how much could be released back to reinsurers and indeed any exposed ILS funds.

In the grand scheme of things, the fact reserving has been ongoing since March 2020 for pandemic exposure among ILS funds, means even if the case goes against insurers, the downside is already largely baked into funds results, we understand.

Still, the potential for more pandemic related recoveries on certain European insurer catastrophe reinsurance programs presents more of a threat of losses, that haven’t yet been accounted for, we’re told.

It’s also worth considering second and now third waves of the pandemic as well, plus how they could play into the potential for future waves of business interruption claims, some of which may trigger reinsurance.

The second lockdown in the UK is expected to follow the judgement, in terms of additional business interruption claims and is also thought to constitute a second event under many program reinsurance terms. So the judgement has a bearing there, as more claims may flow as a result of it.

Analysts currently assume that, as the UK is now in its third COVID-19 lockdown, but this has occurred in 2021 after the renewal, that reinsurance contracts will largely exclude any further claims from the pandemic.

However, there are some multi-year reinsurance arrangements in the market, covering UK exposure to the pandemic we understand, which could see some claims from third lockdown business interruption as well, as there will be business insurance policies that run through the period.

We haven’t seen any data qualifying the amount of exposure potentially in the market to the test case judgement’s effects on second and third wave lockdown claims from the pandemic.

But we’re told with each wave the market-wide exposure reduces, both due to renewed terms excluding pandemic coverage and also the fact some policies only provide a single shot of coverage.

Reinstatements clearly also play a role in second or third wave claims that could flow to reinsurance, increasing the uncertainty over just how big an exposure for the industry this could be.

For the ILS market, at this stage it does seem the industry has done a good job of reserving for any potential UK BI test case claims exposure.

We’re told that the programs potentially affected are easier to identify, which has made taking reserve positions an easier decision related to the UK test case.

We’re still told that potential European catastrophe reinsurance program exposure is not only a bigger threat, but also less well reserved for, in some quarters and especially further down the line at the retrocession end of the chain.

With all of this, quota shares are still considered one source of potential exposure, for those dealing in that type of reinsurance arrangement, while on the excess-of-loss side the industry still believes it has done a good job of being proactive to protect its shareholders and investors against any influx of new claims from judgements, as well as from fresh pandemic wave lockdowns.

As we’d explained previously, some business interruption claims were always set to flow to the insurance-linked securities (ILS) market and ILS funds or other collateralised reinsurance vehicles, but overall this has always been expected to be relatively minimal.

Some insurance-linked securities (ILS) funds had reported small losses related to business interruption claims from the Covid-19 pandemic, with quota shares the main source.

But the efforts to contain any exposure have continued and as we’ve also reported ILS funds have been dealing with potential exposure to the European catastrophe programs by setting more reserves later in 2020.

So today’s judgement is a key point in the industry’s understanding of the potential for more claims to flow from UK businesses, to carriers and on to their reinsurance providers, where coverage is still in place.