Sharing data digitally could speed up transactions and save the industry billions of dollars. But blockchain’s success depends on the industry working together. By Emily Perryman
A world in which reinsurance transactions take place at the click of a button sounds like a far-fetched dream. But it could be about to become reality thanks to the technology industry’s latest buzzword: blockchain.
Blockchain has been around for a decade but, so far, its application has been limited to the digital currency, Bitcoin. Over the past year, excitement has been mounting over the potential benefits it could bring to the (re)insurance industry.
Studies claim it could save the industry billions of dollars by making the way data is processed and claims are settled vastly more efficient.
What is blockchain?
In order to understand the rewards that blockchain could bring, it is important to take a step back and try to understand what the technology actually is.
This is by no means an easy feat – some of the descriptions used can be grasped by only the most technologically astute people.
Blockchain was introduced in conjunction with the launch of the crypto-currency, Bitcoin, around ten years ago. In the Bitcoin market, it acts as a shared public ledger of all the Bitcoin transactions that have ever been carried out.
The entries on the ledger are called ‘blocks’ and the list or ‘chain’ of entries grows as more transactions take place.
Blockchain is different from a standard database because no data is held centrally. Instead, it is shared across the entire network, which means each computer connecting to the network gets a copy.
An advantage of this is there is no centralized point that hackers can exploit. Data cannot be altered without overriding the entire network.
This helps with verifying important data (for example, financial transactions) and creating an authenticated chain of custody.
Blockchain potentially has several other uses outside of Bitcoin because it is essentially about recording and facilitating online transactions.
Why is blockchain relevant for (re)insurance?
Blockchain is of particular interest to the (re)insurance industry because the policies are intangible assets, in a similar way to digital currency.
In addition, the (re)insurance industry contains an enormous amount of data that passes between clients, brokers, reinsurers, and third parties. This data all relates to the same contractual arrangements.
Currently, data has to be manually entered and reconciled multiple times with a high chance of human error. The web of relationships involved in a transaction means reconciliation between each individual database can take weeks.
If this data was on the blockchain ledger, each party to the transaction would have access to it, removing the need to re-enter information on several systems. Settlements could be authenticated between parties without the need for a third-party intermediary.
It is possible that the entire reinsurance transaction could be carried out in a single place and shared among all the parties simultaneously.
What are the benefits to blockchain?
Studies on the use of blockchain in the (re)insurance industry suggest the benefits could be extremely significant.
A report by PwC goes as far as to say that blockchain could result in industry savings of between $5 billion and $10 billion.
This is because the technology could introduce a more automated and streamlined approach to the settlement of transactions where there are multiple counterparties involved, resulting in lower transaction costs and fewer operational risks.
Ed Hochberg, CEO at JLT Re North America, says: “Blockchain enables the parties involved to set certain parameters and limit the amount of human intervention. This could result in significant savings in the back office, increase the level of security, and reduce error rates.
“Blockchain has the promise of making large increases in efficiencies when it comes to the settlement of transactions. It would be terrific if there could be an almost instantaneous type of settlement based on the appropriate parameters of the underlying contract being met.”
The cost of acquiring, writing, and servicing (re)insurance comes from reinsurance expense ratios which, according to PwC, are typically between 5% and 10% of premiums.
Hochberg says transaction costs are an important issue to address because the (re)insurance market has been soft for an extended period of time with no end in sight.
“This affects everyone – from the reinsurer to the intermediary – so there is an obvious appeal to reducing the costs associated with the underlying transaction,” he adds.
Blockchain could enable the entire process – from the initial notification right through to the processing of premiums and commission payments – to be carried out on a single platform with a single protocol.
In addition to saving money, this could help with client satisfaction and retention.
It has also been suggested that blockchain could help to reduce fraud because the ledger is decentralized and resistant to tampering. It can only be updated when all the parties agree.
Transactions could be faster, more streamlined, more secure, and more transparent.
How can blockchain be applied in practice?
Almost every reinsurance transaction is a syndicated placement of coverage for exactly the same underlying exposure. If the contract was set up on a blockchain then, as soon as the proof of loss was established, the parties would simply need to give their online approval.
“You could have a near instantaneous settlement without a massive amount of human intervention,” says Hochberg. “Human intervention would only be needed if the contract involved something extraordinarily complex.”
ILS or ILW transactions are very straightforward as to what the conditions are – for example, parametric or industry-based.
“The money in an ILS transaction is usually already sitting there in trust, so the settlement could be done very rapidly,” Hochberg says. “This is one of the more obvious places where blockchain could be applied.”
What are the challenges?
A challenge for the success of blockchain is that not all (re)insurance transactions are simple.
Some are bespoke and will always need humans to evaluate the information.
“In a bespoke case, where the underlying transaction is not binary, blockchain could perhaps speed up the settlement, but you can’t get away from the need for human intervention. This means the benefits of blockchain could be watered down,” Hochberg says.
Another difficulty is that blockchain can only work if the majority of participants agree to the use of a single platform’s protocol.
There would need to be agreement across almost the whole of the (re)insurance industry, including intermediaries.
Hochberg says this could take some doing. Each company might have different opinions on the veracity and sturdiness of protocols. And even if they do agree, firms could struggle to integrate a single platform with their own legacy systems.
“Agreeing on things like this isn’t something the (re)insurance industry as a whole has done in a streamlined fashion in the past. For example, with the introduction of electronic settlements in the 1990s, it took a while to get everyone on board,” says Hochberg.
“For every part that leaks out and isn’t on the protocol, it will have a significant effect over how much efficiency you can extract. The more players that don’t participate, the less valuable it will be.”
What are the next steps?
Given the challenges involved in implementing blockchain, it’s unlikely that 2018 will be the year when it becomes the standard across the (re)insurance industry. It will probably take a great deal longer.
The good news is that companies are already working together to explore how blockchain can be applied in practice and what tangible benefits it could bring.
In October 2016, an industry initiative called B3i was launched to explore whether blockchain technology can be used to develop standards and processes for industry-wide use and to catalyze efficiency gains.
A pilot project used anonymized transaction information and quantitative data in an attempt to achieve a proof-of-concept for inter-group retrocessions by the use of blockchain.
B3i has now created a prototype platform featuring elements of the Property Cat XL reinsurance contract lifecycle.
Using smart contract technology, it features smart contract set-up through to premium and claim settlement. More information about the platform will be revealed over the next couple of months.
Other market participants are also setting out to prove the case for blockchain. In March, PwC created a blockchain prototype for the London Market Target Operating Model (TOM) Innovation Exchange.
The trial used smart contracts to automatically approve claims that met pre-arranged statements and conditions.
Meanwhile, in January, it was reported that SCOR and ChainThat, a (re)insurance-focused blockchain start-up, had developed a proof-of-concept for exchanging reinsurance accounts between brokers and reinsurers using blockchain.
SCOR claims the tests showed blockchain was quick to implement and had the potential to efficiently reduce costs.
And in September 2017, EY and Guardtime, the world’s largest blockchain company, launched the first blockchain platform for the marine insurance sector, which is due for implementation from 2018.
Built on Microsoft Azure global cloud technology, the platform can create and maintain asset data from multiple parties; link data to policy contracts; act on information that results in a pricing or business process change; and capture and validate first notification or loss data.
Allianz has also used blockchain-based smart contracts to process catastrophe swaps and bonds.
Hochberg says it is too early to tell how well blockchain will work in practice across the entire industry, but the theoretical appeal is limitless.
“There have been some small proof-of-concept tests and there are some obvious places where blockchain can be used, such as ILS and ILW transactions where the conditions are fairly binary,” he says.
“Beyond that, we have not yet seen blockchain being applied to the standard reinsurance market. But it is definitely something that people think offers enormous potential and the industry is keen to explore how to take it forward.”
For more information, please contact us at ClientFirst@jltcanada.com