Although the captive insurance industry is lagging behind in terms of innovation, blockchain is now increasingly appearing on the agenda of many firms but is there a valid use case?
The captive industry is not known for being innovative, however, blockchain has crept on to the agendas of those in the captive insurance industry over the last 18 months.
Blockchain allows digital information to be distributed but not copied, creating the backbone of a new type of internet. Blockchain came to the forefront in 2008 when it was invented by Satoshi Nakamoto to serve as the public transaction ledger of the cryptocurrency bitcoin. The technology has been described as a “time-stamped series of an immutable record of data that is managed by a cluster of computers not owned by any single entity”.
The concept has been adopted and implemented by many different major business sectors over the years but is the captive insurance sector playing catch up with this technology—and has this technology been fully thought-out by industry professionals?
Linking the chains
The captive insurance industry has only over the last few years started discussing the possible use cases of blockchain within the market.
Doug Alexander, digital enterprise architect, AXA XL, says that blockchain is “just beginning to have a tangible impact in the insurance industry and we see it having a significant future impact”.
Alexander describes blockchain as a “highly hyped technology” but says “there are many insurance-related blockchain industry consortia that are moving out of the experimentation mode and are expected to realise the planned benefits”.
He suggests that this is “really positive for the industry to be in this learning mode and broader success will only be possible, like many new technologies, in the adoption at scale and this is the current challenge”.
Sarah Hazzledine, lead of blockchain in financial services for Accenture Europe, explains that while disruption is rocking all industries, “among the most vulnerable is insurance”.
It has been estimated that by 2022, carriers that are slow to respond to changes and innovation by agile, hyper-relevant competitors could suffer market share erosion worth as much as $198 billion, according to Hazzledine.
She suggests that the insurance industry has “grasped the advantages of a distributed ledger system that ensures consistency of data across a network” in the early years.
The industry has seen the potential in distributed ledger technology (DLT) to transform entire insurance markets and ecosystems and to enable the creation of new insurance business models and products.
However, Hazzledine believes that there is “unrealistic expectations about how quickly and easily the value of DLT and blockchain might be realised, along with the cultural challenges of reshaping core industry processes, meant that the technology has not until now, delivered the anticipated benefits”.
As it stands, many firms that launched pilots and proofs of concept—even successful ones—remain uncertain about how to realise the return on investment using this technology.
Also weighing in is Marcus Schmalbach, CEO of Ryskex, who suggests that blockchain isn’t having any impact on the insurance sector.
Schmalbach suggests the rumour that the industry is disrupted by this technology “hangs like a sword of Damocles over us, but still, there are, at most, tiny steps and no revolutionary use cases”.
He says: “I even go so far as to say that the cases currently being touted are more likely to hamper the blockchain’s triumphal march as they don’t provide any scalable value.”
Taking a byte
InsurWave is one example of a blockchain platform that is currently being used.
The “first blockchain-enabled” insurance platform in production, was created by EY and Guardtime, in collaboration with others in the insurance industry such as Microsoft, ACORD, Maersk, Willis Towers Watson, AXA XL and MS Amlin.
It has been designed to integrate and secure the streams of disparate data sources involved in insuring shipments around the world.
According to Alexander, this is “a great story of working together across the industry to solve for the data sharing and friction challenges across the insurance value chain”.
He explains that “in the insurance transaction, client and the captive structure of Maersk, broker Willis Towers Watson, insurer AXA XL and reinsurer MS Amlin share vast amounts of data between and within each organisation”.
He explains that InsurWave allows “each member of that value chain to have the same version of the truth, captive included”.
He adds: “Near real-time exposure data, how this exposure was insured, whether it be retained by the captive or insured or reinsured and each party in the transaction had access to that same data.”
Alexander notes that this “changes both the relationship between the parties and the nature of the insurance transaction from a point in time to near-real-time allowing for constant views of exposure and what is or is not retained”, adding that this platform is “a game-changer”.
Alexandra Gedge, business development and captives executive at Marsh, suggests that there are “endless opportunities” that blockchains can provide the captive insurance sector.
Gedge says that establishing shared rules and standards as to how the industry shares data among captive owners, service providers, and regulators “has the potential to help with quicker payments and automate some of the more straightforward loss payments via smart contracts, as well as help with administering global programmes”.
Rocco Mancini, vice-president of Marsh Captive Solutions, adds: “Moreover, shared rules and standards can create greater transparency for all parties involved. One result is a broadening discussion around creative ways a captive’s capital can be utilised and maintained, which regulators can monitor in real-time with blockchain.”
Matthew Queen, general counsel and chief compliance officer, Venture Captive Management, says that captive managers can use blockchain applications to insure new risks and provide market solutions where the admitted carriers are struggling.
One example Queen provides is windstorm coverage, suggesting that it may function more efficiently without worrying about total indemnification.
Queen comments: “Leveraging the windstorm example above, a group or association captive providing parametric coverage for a large deductible on a 10 percent deductible windstorm property policy would effectively solve a huge issue in certain markets. Most windstorm coverage is too expensive without a large deductible.”
He suggests that parametric coverage offered via captive could pre-fund a deductible a minimal cost while retaining a traditional property policy above the captive’s retention.
“This is a simple variation on the traditional buyback deductible captive strategy. This is low hanging fruit. The real interesting applications rest in insuring new risks that traditional carriers overlook,” Queen adds.
Some further developments were made around blockchain in the captive industry in August this year when the Distributed Ledger Governance Association (DLGA) announced they had set up a captive insurance working group in Vermont.
The DLGA is a non-profit trade organisation focused on the blockchain industry, founded in order to showcase ledger businesses and technology.
At the time of the announcement, John Burton, the DLGA chair, explained that the working group would host a forum of “engaged captive insurance stakeholders to accelerate the meaningful use of blockchain in the captive insurance space”.
Building a firewall
When examining why some firms are holding back from exploring blockchain, the finger of blame points in every direction.
Mancini suggests that “most companies still have a lot to do” regarding the use of blockchain.
He explains that currently in the industry there are big changes, including a transitioning insurance market and International Financial Reporting Standards (IFRS) 9 and 17, that are priorities for captive owners, service providers, and regulators ahead of emerging technology.
“Particularly in the insurance industry, lots of companies and regulators are becoming blockchain ready, but, as the technology’s potential has not yet been fully realised, it can be challenging to prioritise a blockchain proof of concept,” Mancini adds.
Jeana Nordstrom, president of UniRisk, suggests that although there are a number of companies not using blockchain currently “as younger replacements are hired we will see a complete change in a few short years”.
However, Queen states that although “it feels great to blame the baby boomers for everything. It’d be easy to simply say that the old folks running insurance companies just don’t get it. As is the case with any technology, laggard management is an issue”.
According to Queen, the youthful captive managers also deserve some of the blame, suggesting “a lack of imagination on the part of captive managers has generally held back wider adoption of blockchain”.
He adds: “This is due to over-selling 831(b) enterprise risk captives and failing to invest proper resources into the pulling this new technology into our space.”
“That said, necessity is the mother of invention and as larger carriers incorporate blockchain into their practices the captive industry will be forced to follow in suit.”
Hotspotting blockchain?
Although there are firms exploring the possibility of blockchain solutions within the captive insurance industry, there is also room for firms to collaborate and come up with blockchain solutions together.
Hazzledine explains that “consortiums, where groups of organisations commit resources towards a common cause, appear to be successful drivers in this early wave of DLT”.
She describes that “by coming together, companies are able to combine their experience and resources to overcome the hurdles to DLT adoption”.
“In establishing business networks that capture efficiency gains, these first-movers are laying the foundation of a future transformational and disruptive impact on the entire industry.”
Nordstrom believes “every partner in the process regardless of how remote from the end policy need to be linked in”.
Agreeing with Nordstrom, Schmalbach suggests that “the blockchain philosophy is like a successful double pass in football—alone is impossible”.
Schmalbach says he “would even go so far as to say that one does not only cooperate with traditional market participants or one’s own value chain but also expands the field of dialogue and cooperation partners”.
Virtual obstacles
Although there is a lot of hype around the possible use cases of blockchain, the captive insurance industry will stumble across challenges.
Queen explains that “it’s a very new product and we are still unsure of how blockchain could fail”.
Queen notes: “Google claims that it figured out quantum computing—that should theoretically invalidate the safety of these transactions on the distributed ledger.”
He adds that although Google’s claims are likely inflated for marketing, “that’s a systemic risk to the whole concept of DLT”.
“Finally, you’ve got good old fashioned ignorance. Using new technology always comes with challenges.”
“We just don’t know what we don’t know. That’s likely to cause delays, mistakes, and failures to launch,” Queen says.
Gedge suggests that “with the rising interest in insurtech, blockchain is competing for time and capital with plenty of other technologies in addition to the natural cost, and time, barriers to adopting something new”.
She comments: “Companies may struggle to justify the time and capital requirements to pilot the technology and create shared rules and standards internally, let alone collaborating externally to do the same.”
Schmalbach relates blockchain to a poem by Hermann Hesse which begins with the words ‘and every beginning contains a magic’ but he says, “I like to add, but also always a risk”.
He explains that “no other industry knows more about risks than the captive and insurance industry.” But he adds the biggest risk facing the captive sector “is a lack of courage.”
Schmalbach says: “The greatest courage is always put by the parties on the day that has the most to win or the most to lose. That’s why I think there’s a very exciting and echoing thing going on in Vermont and London right now.”
“Some because they want to stay number one, others because they have to reform to survive. The biggest challenge in both warehouses is to convince regulators, legislators and their customers of the added value of the solution and its security,” he adds.
Schmalbach predicts that it will be 2020 before a “moonshot solution is presented by at least one of the two protagonists respectively the way it will be paved”.
Phishing towards the future
Looking towards the future of blockchains within the captive industry, Hazzledine explains that “by working together to determine how their market may benefit from an industry-wide solution and how to share the costs of ideation and development, insurance organisations can uncover the true value of DLT”.
She suggests that means companies that wish to succeed with DLT should seek other insurance organisations and ecosystems which share their vision for an important industry process and work with them to find where there is room to create mutual benefit.
“Such initiatives will need to be driven by tech-savvy business leaders with the ability to bridge legacy organisations and new models of collaboration and engagement,” Hazzledine adds.
Alexander concludes: “Blockchain will be an enabler of new and refined business processes and data standards in the near future and will change the way that we work with third parties.”
