Don't call it innovation. The recent flood of reinsurance business into the Cayman Islands isn't a sign of creative disruption but a pragmatic escape from Bermuda's mounting regulatory hurdles and costs.
That’s the assessment from Patrick Knauth (pictured), of McGill & Partners, who argues that the trend is a continuation of a 15-year-old strategy, not a new one.
“The recent surge is not innovative. The only difference is now that more and more new entrants are going to the Cayman Islands as opposed to Bermuda,” he said. The offshore pivot began in 2008 and 2009 with firms like Athene and Global Atlantic, and the core approach has not changed since.
Setting up in Cayman, Knauth said, was “a much more efficient process to set up an entity,” with fewer overhead and staffing requirements than Bermuda. He described Bermuda’s regulatory regime as “significantly more burdensome,” making it “harder to establish a shop down there.” He estimated that costs have become “three to four times what it was previously.”
Knauth emphasized that the move to Cayman was not about tax advantages. “I don’t think the reason has anything to do with taxes. I think it is around just the regulatory changes,” he said. In contrast to Bermuda, the Cayman Islands offers a “much more efficient process” for setting up an entity, with a more flexible regulatory environment.
Critics have raised concerns about transparency and sustainability in offshore structures, but Knauth was direct about the safeguards. “Are they going into some sort of black box? It’s absolutely not the case,” he said. He explained that the deals are structured to maximize security. Instead of assets being sent offshore, they are held in a secure, segregated account on the original insurer’s own books – a structure known as "Coinsurance Funds Withheld." This account acts as collateral.
Knauth outlined the strict requirements for overcollateralization, stating, “That segregated account, or the collateralized account, needs to be 100% of the statutory reserves. And then there’s, in most instances, also a level of overcollateralization, from anywhere to 2% to 5%.” If collateral drops below the threshold, the insurer can recapture the business. “The reinsurer would be required to top up that collateral account. And if they weren’t able to do that, that’s when the insurance company would be able to recapture the business,” he said.
Knauth made clear that yield was the primary motivation for entering the reinsurance market. “The yield’s very important. That’s a lot of the reasons why companies are entering into this space, especially as it relates to new business, is to help support a more competitive product,” he said. Reinsurers typically invested 70 to 80 percent of assets in fixed income securities, with the balance in niche asset classes such as residential or commercial mortgages and structured credit. “That’s where they’re getting that alpha to bring in a higher investment return to then either support a more competitive product or pay a ceding commission to the insurance company,” he said.
Despite the focus on yield, Knauth said policyholder protection was built into the structure. “The reinsurer’s on the hook for those obligations to the policyholder. But if something in a doomsday scenario, something were to happen to that reinsurer and they were no longer to meet those obligations anymore, the direct carrier is still on the hook to pay out those policyholders,” he said.
Asked whether this trend marked a permanent shift in risk management, Knauth was unequivocal. “I think this is here to stay. Again, it’s been going on for 15-plus years,” he said. What began in a low-interest-rate environment has proven to be a durable “capital management tool” even as rates have risen.
While regulatory pressures may drive the initial shift offshore, Knauth noted that as companies grow comfortable with the Cayman model, the ultimate choice of partner is less about the location and "more about the management team and their experience and the capital that’s actually on the balance sheet."
“So you have the collateral, the over-collateralization, and that’s kind of the first stop,” he said.
