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LaTin America's promising potential

Insurers see strong growth prospects if they can overcome regulatory hurdles

"Latin America offers huge opportunities for growth since many of the individual countries are seeing a rapidly expanding middle class" -Simon Owen, Principal, Folio Insurance Management

By Michael J. Moody, MBA, ARM

From a financial standpoint, insurance has always been characterized as a cyclical industry. Financial results have been the outcomes of claims costs and interest earned on reserves. Historically, the industry has depended on actuaries to help determine the most appropriate rate based on past losses and current interest rates. However, time is required to determine if the rates are, in fact, adequate for the risks. As a result, the industry was frequently adjusting to rate adequacy. Bottom line, however, the insurance industry either had more capital than it needed or less than it needed, and it adjusted future rates accordingly.

Today the worldwide insurance industry finds itself in a unique situation. Despite a glut of catastrophe losses over the past few years, and record low interest rates, it has significant amounts of capital. Unlike many other industries, the insurance/reinsurance business is today struggling to find ways to better deploy its capital.

Emerging markets

Most developed countries have a variety of issues that will limit their long-term prospects for sustained growth. Among the problem areas are low interest rates and persistent high unemployment rates, as well as a sluggish housing sector, all of which will result in a challenging environment for insurers.

Simon Owen, principal of Folio Insurance Management, says, "Over the past decade North America and many parts of Europe have rapidly matured to become what can be fairly described as saturated markets." Insurance/reinsurance carriers looking for ways to deploy their capital and increase their market share are left with few growth strategies except acquisition. Owen suggests that, at best, the insurance industry in these developed markets can be characterized as stagnating, which has led to the commoditization of products and service.

This situation has left few viable options for carriers. Most believe that pursuing business in emerging markets is the most promising option. "Forward looking insurers/reinsurers have been aware of this trend and have begun focusing their attention on emerging markets," Owen points out. He notes that many carriers have concentrated on places like China and India, but he suggests that Latin America may also be an attractive option.

"Latin America offers huge opportunities for growth since many of the individual countries are seeing a rapidly expanding middle class." This typically leads to "an increasing demand for more sophisticated risk financing products," says Owen.

Some experts suggest that Latin American countries could grow as much as 6% to 7% per year over three to five years, with some countries achieving annual growth of 10%. Owen points out that while Latin America is very much on the radar of both insurers and reinsurers, "As with most emerging markets, it is imperative to fully understand the venue, their nuances and their needs and problems."

That includes unique rules and regulations. Countries in Latin America do have some similarities regarding licensing requirements and tax regulations; however, Owen says that "the only truly consistent feature of the diverse region is unprecedented legislative complexity." Many of the countries in the region have been identified in the World Economic Forum as among the worst performers in terms of the "burden of government regulation," a fact that becomes painfully evident when reviewing the cumbersome and restrictive insurance regulations.

On balance, however, this is no different than expanding into any new marketing area. Any carrier must take prudent steps to determine the proper methodology for operating in a new jurisdiction. Additionally, it is always good to have an experienced professional who has a thorough understanding of local rules and regulations, and who knows the domicile regulators. These types of preplanning measures are needed regardless of the locale involved. Such advanced planning can help to assure a successful entry into the jurisdiction as well as a long-term, profitable relationship with local insurance buyers and regulators.

While most of the more advanced risk financing methods have not yet been utilized, Owen feels that there is an opportunity for alternative risk financing approaches, particularly captive insurance companies, to be used in Latin American countries. At this point, Owen says, due in large part to restrictive legal features, dual fronting via locally approved insurance and reinsurance carriers would be required under most captive scenarios. This point, he says would make direct assumption by a captive unlikely in most of Latin America, except in special circumstances. However, fronting carriers can effectively offer a viable solution—as long as costs and related taxes are not overly prohibitive.

He notes that his firm, Folio, has already begun to develop an alternative market within Latin America. For example, they "are already in the process of establishing a Segregated Portfolio Company (SPC)." The program is being established for a large Latin American financial services group. The captive "will be purposed domiciled in the Cayman Islands, a leading financial services jurisdiction." The primary purpose is to offer SPC clients the ability to have risk participating opportunities, Owen says.

Captive insurer companies offer many of the same benefits to the parent organizations that can be gained in the U.S. or EU, Owen notes. Among the most important of these benefits is that "most offshore captive domiciles have low to zero corporate, dividend, premium or investment tax rates, making them immediately appealing to some corporations."

Over and above that, Owen says, "There are certain captive domiciles that already have beneficial Double Taxation Agreements and Bilateral Investment Treaties." He notes that those Latin American countries that do not have similar legislation are in the process of developing appropriate rules and regulations. As a result, he believes that Latin American countries represent potential for prospective captive ownership.

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