Election cycles, a declined interest in emerging market assets, and a return to protectionism have hampered projected growth in Latin America. Despite this, the outlook on captives remains positive
Election cycles, a declined interest in emerging market assets, and a return to protectionism have hampered projected growth in Latin America. Despite this, the outlook on captives remains positive.
The economic tides were supposed to have turned in Latin America. On the back of the first increased growth in the Latin American market in six years in 2017—2.5 percent GDP, up from 2.2 percent in 2016 (figures are for the Latin American region without Venezuela)—the economy was predicted to strengthen again in 2018.
A report from the Economic Commission for Latin America and the Caribbean estimated GDP in the region would grow again to 3.2 percent in 2018, while industry commentators suggested the outlook was very good for the foreseeable future. It now appears that may have been a false dawn.
Regional growth came in at 1.6 percent year-on-year (figures from Focus Economics and excluding Venezuela). Bartolome Massot, head of Latin America at Quest Management Services, suggests that “political noise likely held back growth, despite an improving labour market”.
Undoubtedly, last year was disappointing for the region, a year which Massot says has been characterised by “elections cycles, declined interest in emerging-market assets and a surprising turn toward protectionism again”, and yet the feeling surrounding the future of the captive market remains positive.
Current market
Massot notes that while a healthier wider economy would mean a healthier captive insurance market, the outlook for the region’s captive industry is very positive. He explains that the size of the market, in terms of the number of captives, is debatable: “Some sources suggest that only 80 captives belong to Latin American shareholders, while others put the number around 200.”
He adds: “Whether the latter number includes unincorporated cells is only known by those who manage it.”
Massot explains that the market is predominantly made up of three types of captives; segregated captives, used either as straight forward risk transfer mechanisms to the reinsurance market or to strategically retain some risks; pure and group captives, many of which are owned by non-Latin American shareholders with large operations within the region; and finally a small number of agency/producer captives who promote their rent-a-captive facility to small- and medium-size businesses.
Juan Pablo Cuartas, vice president of captives, Latin America, JLT Insurance Management, and Juanita Blanco Piñeros, assistant vice president of captives, Latin America, JLT Insurance Management, add that “overall, Colombia and Mexico continue as the region’s leaders in new captive creation, followed by Peru, Chile and Brazil”.
They suggest that the captive market grew steadily in 2018 and “expect to see continuous growth in captive creation for 2019, in line with previous years”.
One thing positively impacting the captive market is the increased regional presence of Latin American companies. This is owed in part to the “multi-latinas” model, which refers to companies in the region that have grown faster than average and expanded beyond their borders to other countries in Latin America and beyond.
Cuartas and Piñeros explain that “because these growing companies are often innovative, they are receptive to structuring new captive insurance schemes and the related risk management tool captives provide”.
For emerging markets, a lack of understanding of captive insurance is often a key obstacle in industry growth, and while this education gap does still exist, it has become significantly smaller over the last few years.
Cuartas and Piñeros comment: “Latin American companies now have a better understanding of the captive concept, its benefits and implications.”
“This can actually be perceived in the interaction with risk managers who are becoming more specialised and professional, talking more in a ‘language of risk’ rather than a ‘language of insurance’. This specialisation will certainly generate more opportunities for captive insurance schemes.”
Massot is in agreement about a shift in attitude in the region, he explains: “Opportunity wise, Quest saw a spike in enquiries for new formations and requests for feasibility studies.”
“In every case, we are dealing with in-house professionals who have in-depth knowledge of risk management, most are professionally qualified and they know how they want to use the captive to produce results. This determination a significant change compared to 2017.”
He remains positive about the future of the region’s captive industry, noting that “regardless of the number of captives, the truth is that its potential remains as strong if not more so, than last year”.
Obstacles
Despite the good feeling surrounding Latin America’s potential for captive growth, the region has obstacles that are impossible to ignore. From a regulatory standpoint, insurance companies are faced with protectionist laws and tight restrictions.
Many countries in the region still have regulatory restrictions that directly impact the financial structure of captive insurance companies, adding more complexity than other regions in the world.
Protectionist insurance laws are employed all across the region, but Massot says the toughest laws are in countries where the captive potential is the highest, such as Brazil and Colombia. He argues: “Businesses could be doing much better and managing their risk far more efficiently if country regulators opened-up the industry, which ultimately translates into healthier economies all-around.”
According to Massot, many of these protectionist policies provide short term benefits but limit long term growth and sustainability.
He adds: “Governments need to look at today’s problems, but more importantly they need prevent speculation while allowing organisations to complete freely.”
“Policy making in Latin American must keep on the pace of reform and further free trade agreements; but it must also include antitrust legislation, ideally regional and only domestic.”
Another issue is that organisations in the region are struggling to partner with the right provider. Massot says this is down to a fundamental conflict of interest caused by the fact that the biggest players in the captive management are also brokers.
He explains: “There is a fundamental conflict of interest in doing the right thing when you have all your eggs in both baskets. These situations are very difficult and it almost always ends up in detrimental insurance advice for the client.”
Despite the closing education gap, Cuartas and Piñeros note that the region still faces a continued unwillingness among local insurance companies to participate in captive insurance schemes, which could restrict growth.
Cuartas and Piñeros say this unwillingness is down to a range of factors, including “lack of knowledge, infrastructure and regional presence”.
Bloc economics could also have an important role to play in future growth. The influence of the South American trading bloc Mercosur may be expanding within its members, but Massot comments that “it remains a forum and not an executive body”.
He highlights its treatment of Venezuela, who was indefinitely suspended from Mercosur in August 2017 in response to non-democratic actions made by Venezuelan President Nicolás Maduro, as a “mistake”.
“Mercosur should have taken steps to resolve a problem that will affect the whole region if left alone.”
Predictions
Despite continued uncertainty in Latin America in 2019, predictions for the future are positive. Massot’s figures suggest regional growth should bounce back up to 2.3 percent GDP this year, and grow to 2.6 percent GDP in 2020 (excluding Venezuela).
Across the region, Massot expects an upturn in economic fortune. He explains that Brazil will improve its labour market toward the final quarter of 2019, “thanks to the political turn that will fuel acceleration from the start”.
In Argentina, following a chaotic 2018, Massot believes we will see more government accountability, and although recession will remain, it will be softened as structural reforms are implemented.
Additionally, he predicts faster growth in Chile and Peru.
In Colombia and Brazil, two countries with high captive potential, Massot suggests we may see small steps towards opening up the insurance market.
He says: “I think that this will start with further changes to capital and solvency rules more in line with Solvency II with full equivalence shortly after. We will also see a reform in admission rules in Brazil and Argentina.”
There is no doubt that there is an opportunity for captives in the region–currently Latin America is a region of over 880 million, $147 billion in premium, an insurance protection gap of roughly two and a half times the size of the actual market, and very few commercial captives.
It remains to be seen whether 2019 can deliver the sort of captive insurance industry growth that many believe the region is due, and despite the economic stutter in 2018, the attitude remains optimistic.
Cuartas and Piñeros conclude: “Continuous growth is expected in the region for 2019.”
