CAS Reinsurance Concepts and Applications 1 — Questions and Answers
Question 1: What is the primary purpose of reinsurance for a primary insurer?
- To eliminate underwriting profit volatility entirely
- To transfer a portion of risk to another insurer to reduce exposure and stabilize results (Correct answer)
- To replace the primary insurer's capital requirements
- To avoid regulatory oversight of large claims
Correct answer: To transfer a portion of risk to another insurer to reduce exposure and stabilize results
Reinsurance allows primary insurers to transfer part of their risk to a reinsurer, which stabilizes underwriting results and reduces the financial impact of large or catastrophic losses.
Question 2: Under a proportional reinsurance treaty, how are premiums and losses shared?
- The reinsurer pays all losses above a fixed retention
- Premiums and losses are shared in the same proportion as agreed (Correct answer)
- The ceding company retains all premiums but shares losses equally
- Losses are shared only if they exceed a minimum threshold
Correct answer: Premiums and losses are shared in the same proportion as agreed
In proportional (pro-rata) reinsurance, both premiums and losses are shared between the ceding company and the reinsurer in the same agreed proportion.
Question 3: Which reinsurance structure pays losses only when they exceed the ceding company's retention?
- Quota share treaty
- Surplus share treaty
- Excess of loss (XOL) reinsurance (Correct answer)
- Facultative proportional reinsurance
Correct answer: Excess of loss (XOL) reinsurance
Excess of loss reinsurance is a non-proportional structure where the reinsurer only pays losses that exceed the primary insurer's retained amount (the retention).
Question 4: In a quota share treaty with a 30% cession rate, if a $500,000 loss occurs, how much does the reinsurer pay?
- $150,000 (Correct answer)
- $350,000
- $200,000
- $500,000
Correct answer: $150,000
With a 30% quota share, the reinsurer pays 30% of the loss: 0.30 × $500,000 = $150,000, and the ceding company retains $350,000.
Question 5: What is a 'ceding commission' in a proportional reinsurance treaty?
- A fee paid to the broker who arranges the treaty
- An amount paid by the reinsurer to the ceding company to cover acquisition and overhead costs (Correct answer)
- The profit margin retained by the primary insurer
- The penalty charged when the ceding company cancels the treaty early
Correct answer: An amount paid by the reinsurer to the ceding company to cover acquisition and overhead costs
A ceding commission is paid by the reinsurer back to the ceding company to reimburse it for acquisition costs (agent commissions) and overhead associated with the ceded business.
Question 6: What distinguishes facultative reinsurance from treaty reinsurance?
- Facultative covers individual risks negotiated case-by-case; treaty covers a defined portfolio automatically (Correct answer)
- Treaty reinsurance is only available for property lines; facultative covers liability
- Facultative is mandatory; treaty is optional for the ceding company
- Treaty reinsurance has no premium while facultative reinsurance does
Correct answer: Facultative covers individual risks negotiated case-by-case; treaty covers a defined portfolio automatically
Facultative reinsurance is negotiated individually for specific risks, giving both parties the option to accept or decline, whereas treaty reinsurance automatically covers all risks within a defined class or portfolio.
Question 7: An aggregate stop-loss reinsurance contract would most likely be used to protect against which scenario?
- A single extremely large individual claim
- High frequency of small claims leading to adverse aggregate loss ratios (Correct answer)
- Losses from a single line of business exceeding an occurrence limit
- Individual risks that exceed the primary insurer's underwriting capacity
Correct answer: High frequency of small claims leading to adverse aggregate loss ratios
Aggregate stop-loss reinsurance protects the ceding company when the total (aggregate) losses over a period exceed a specified amount, making it ideal for high-frequency, low-severity loss accumulation risk.
CAS Reinsurance Concepts and Applications 1
What is the primary purpose of reinsurance for a primary insurer?