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The Sensitivity of Reinsurance Demand to Counterparty Risk: Evidence From the U.S. Property–Liability Insurance Industry
Author(s) -
Park Sojung Carol,
Xie Xiaoying,
Rui Pinghai
Publication year - 2019
Publication title -
journal of risk and insurance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.055
H-Index - 63
eISSN - 1539-6975
pISSN - 0022-4367
DOI - 10.1111/jori.12244
Subject(s) - reinsurance , credit risk , actuarial science , business , counterparty , economics
This article investigates market discipline in the reinsurance market by examining the sensitivity of reinsurance demand to reinsurer counterparty risk for a sample of U.S. property–liability insurance companies. Using the financial strength rating of reinsurers as a proxy for reinsurance counterparty risk, we find evidence of market discipline that reinsurance demand is sensitive to counterparty risk. Specifically, reinsurance demand reacts negatively to reinsurer rating downgrades, with the reduction being the largest when a “weak” reinsurer gets “weaker,” followed by a reinsurer being downgraded below a benchmark rating. The sensitivity is higher for authorized reinsurance than for unauthorized reinsurance. Reinsurance demand sensitivity to counterparty risk is found to be lower for ceding insurers with higher leverage. Ceding insurers with high reinsurer sustainability are less sensitive to noncritical rating downgrades of reinsurers. Additionally, reinsurance demand is found to be less sensitive to reinsurer upgrading than to reinsurer downgrading.