CandleFocus

Treaty Reinsurance

Candlefocus Editor

Treaty reinsurance is a form of insurance purchased by an insurance company, commonly referred to as the cedent, from a reinsurer. The purpose of treaty reinsurance is to provide protection to the cedent in the event of unusually high or catastrophic losses. The reinsurer assumes the risk of the contract, typically sharing profits and losses in accordance with the terms of the agreement.

There are two main categories of treaties, proportional and non-proportional. In a proportional treaty, the insurer and the reinsurer share the risks as well as the premiums and claims payments according to predetermined ratios. In a non-proportional treaty, the insurer pays a fixed fee to the reinsurer, who then assumes all of the risk up to a specified limit.

One of the major benefits of treaty reinsurance is that it provides insurance companies with more financial stability and more equity. By diversifying the risk of large losses among several reinsurers, the financial impact of a single catastrophic event is reduced. This is especially important for large insurers with a significant number of policyholders, as the potential losses from such an event could be enormous.

Treaty reinsurance is also beneficial from a transaction cost standpoint compared to facultative and excess of loss reinsurance. In a facultative agreement, the insurer evaluates each situation individually and rejects risks which are undesirable. With treaty reinsurance, the agreement is made in advance and no risks are rejected.

In short, treaty reinsurance is an important tool used by insurers to reduce the risk of large losses, diversify risk and control transaction costs. By sharing risks, reinsurance can provide insurers with greater financial stability, more equity and less volatility when catastrophic events occur.

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