INTRODUCTION & SOME DEFINITIONS
top
GLOSSARY OF ALTERNATIVE RISK TRANSFER / REINSURANCE & FINANCING TERMS - a compilation from various sources by 
Financial guarantee insurance
A form of insurance
that first appeared in the 1930s as mortgage guaranty insurance and returned in
the 1970s in several different forms (municipal bond guaranty insurance, limited
partnership investor bond insurance, residential value insurance, etc.). Today,
most states exclude mortgage guaranty and consumer-oriented credit insurance
from their definition of financial guaranty insurance. It is a descendant of
suretyship and is generally recorded as surety on the annual statement that
insurers file with regulators. Loss may be payable in any of the following
events: the failure of an obligor on a debt instrument or other monetary
obligation to pay principal, interest, purchase price or dividends when due as a
result of default or insolvency (including corporate or partnership obligations,
guaranteed stock, municipal or special revenue bonds, asset-backed securities,
consumer debt obligations, etc.); a change in interest rates; a change in
currency exchange rates; or a change in the value of specific assets,
commodities or financial indices. These contracts usually involve sophisticated
insureds, and therefore rates may be exempt from general statutory standards.
Act of God bond
A bond issued by an
insurer with repayment terms linked to the company's losses from natural
disasters. Investors are paid a higher rate of return than on most corporate
bonds, and they share the insurer's risk of catastrophe losses. Interest on the
bond may be a certain number of points above U.S. Treasury bonds or other
benchmark investments. If a large disaster strikes, bondholders may be required
to forgive some or all of the principal, or the bonds might be automatically
converted into stock of the insurer.
Derivative
A financial contract
the value of which is derived from another (underlying) asset, such as an
equity, bond or commodity.
Difference between a
derivative and an insurance contract
A
contract offered by a licensed insurance company to transfer a purchaser's
weather risk to the insurance company is likely to be viewed as "insurance" if
the purchaser must prove it has suffered a loss before receiving a payment under
the contract.
A
contract is likely to be viewed as a derivative, on the other hand, if the same
weather risk is documented under a bilateral agreement between two parties
(typically, under an ISDA master agreement), where the payment is based on a
calculation specified in the contract, without regard to whether the party
entitled to receive the payment has incurred a loss.
To
further refine this general rule, a derivative contract could (but need not)
include a disclaimer that the contract is not intended to be insurance; the
contract is not suitable as a substitute for insurance; and the contract is not
guaranteed by any "property and casualty guaranty fund or association" under
applicable State law. One final point: marketing materials with respect to the
contract should not focus on the similarities between the derivative contract
and insurance products.
Equipment value
insurance
A policy covering
leased equipment, guaranteeing its value on a specific date (usually, but not
necessarily, the lease's termination date). If the equipment's fair market value
is less than the value stated in the policy on the agreed date, the insurer
would pay the difference.
Investment return
insurance
Insurance against the
risk of loss for the value of the redeemable securities of an insured investor.
Limited partnership
investor bond insurance
A form of financial
guaranty insurance that guarantees fulfillment of the obligations of a person
investing in a limited partnership. If the person ceases making payments, the
insurer will pay the outstanding amount in installments over the remaining
payment period. The insurance is irrevocable and will remain in full force until
all of the insured obligations are paid. Example: If the partnership has agreed
to purchase a building, and each partner agrees to pay $1,000 a month for
mortgage payments, this insurance would respond if one of the partners is unable
to continue her required payments.
Manufacturer's
penalty insurance
A commercial policy
covering losses due to the unavailability of a product the insured has
contracted to supply or manufacture. Coverage is purchased in amounts based on
the contract between the insured and the buyer of the product. The objective is
to protect the insured against responsibility for delays in completion due to
non-delivery. Coverage is usually a percentage (i.e., 90%) of the penalty
amount, but excludes coverage for delays due to a labor dispute.
Mortgage guarantee insurance
Insurance purchased by
a lender to provide indemnification in case a borrower fails, for whatever
reason, to meet required mortgage payments. Typically, the mortgagee must report
to the insurer when the mortgagor is two months in default. Should foreclosure
be required, the mortgagee usually must acquire title to the property before the
claim is paid.
Movie completion
bond
A form of surety bond
that provides assurance to the financial backers of a motion picture that it
will be completed on time.
Municipal bond
guarantee insurance
Coverage that
guarantees bondholders against default by a municipality. This form of financial
guaranty was introduced in the early 1970s. Municipalities embraced it because
their offerings took on the credit rating of the company that wrote the
insurance, rather than their own ratings. It meant that most municipal bond
offerings were elevated to AAA, and municipalities could raise money at lower
interest. For investors, it made municipal bonds less risky.
Mutual fund
insurance
A form of financial
guarantee insurance that guarantees the repayment of the principal invested in a
mutual fund.
Oil and gas deficiency insurance
A form of guaranteed
performance insurance that indemnifies the insured if an oil or gas field's
actual output falls short of engineering report projections. Coverage is
generally limited to fields with proven reserves with at least three currently
producing wells.
Residual value
insurance
A form of financial
guarantee insurance that protects a lessor against unexpected declines in the
market value of leased equipment (automobiles, aircraft, heavy machinery) upon
termination or expiration of the lease agreement.
Securitization
1.
Securing the cash flows associated with insurance risk. Securitized insurance
risk enables entities which may not be insurance companies to participate in
these cash flows
2. Securitization is a process whereby assets are pooled and security interests
in the pool are sold-typically to institutional investors. Assets created in
this manner include mortgage-backed securities which are backed by residential
mortgages, and asset-backed securities which are backed by credit card
receivables or consumer installment loans.
In a typical arrangement, the assets are transferred to a trust [see footnote]
and security interests are sold to investors. While various arrangements are
used, typically, principal and interest cash flows are paid directly to
investors. In this way, the investors incur the prepayment risk of the
underlying assets.
Most deals entail some sort of credit enhancement. This may include
over-collateralization, a third party guarantee, or other enhancements. For this
reason, the securities tend to have excellent credit ratings.
The originator of the underlying assets may continue to process the
assets-communicating with borrowers and collecting their payments. They subtract
a fee for doing so. Alternatively, the originator may sell these "processing
rights" to a third party.
For loan originators securitization is a means of removing risky assets from
their balance sheet, freeing up capital to support further loan writing.
For investors, the securities offer yields that exceed those on comparable
corporate bonds. Because the deals are usually large and have high credit
ratings, the securities tend to be liquid-most are actively traded on secondary
markets.
Suretyship
The function of being
a surety. It is the obligation of a surety to pay the debts of or answer for the
default of another. A three-party contract is the basis for a suretyship: One
party (surety) undertakes to answer to a second party (obligee) for the debt or
default of a third (principal) resulting from the third party's failure to pay
or perform as required by an underlying contract or legal obligation.
System Performance - Energy-Related Risks Insurance
INSURANCE DEFINITIONS
top
GLOSSARY OF ALTERNATIVE RISK TRANSFER / REINSURANCE & FINANCING TERMS - a compilation from various sources by
For more definitions of various forms of insurance refer to Insurance Marketplace (Rough Notes)
FINANCIAL GUARANTEE MARKETS
top
SECURITIZATION
top
DERIVATIVES / FUTURES / OPTIONS
top
OTHER RESOURCES
top
|