Why Trade credit risk needs to change

An organisation's credit risk changes.

Republished with the kind permission of Insurance Day

Better quality risk data will be needed as trade credit insurers prepare themselves for future claims

Trade Credit Insurance, unlike other classes of business, is a key foundation of the infrastructure that supports UK enterprises, with trade credit insurance underwriting an estimated £350 billion of economic activity for more than 630,000 businesses each year, according to Government figures.

Going into 2020, the credit market was experiencing a hardening of rates after a 10-year run of soft pricing following the 2008 Credit Crunch. Yet, once the pandemic accelerated across the world and lockdowns were implemented, many credit insurers were rightly concerned about the fallout.

The Association of British Insurers estimates that insurers will be expected to pay out £2.5 billion in UK insurance claims relating to COVID-19, with £2 billion of that number expected to be on Business Interruption claims. Lloyd’s previously estimated the cost of the pandemic to be £500 million.

The market as a whole has not experienced a significant loss from the pandemic mainly because of the Government support provided to credit insurers and businesses. In the UK, a key staple of this support has been the furlough scheme that helped provide a safety net for more than 10 million employers since its inception in March 2020.

Likewise, the Government offered business loans and set up a Trade Credit Reinsurance scheme that provides a Government guarantee of up to £10 billion for hundreds of thousands of business-to-business transactions. The scheme was recently extended into June of this year.

However, many leading credit organisations understand this is the “calm before the storm” and that once support is withdrawn there may be a cascade of claims. Claims that many credit (re)insurers believe will be difficult to validate as they do not have the necessary data such as repayment information.

Nevertheless, the pandemic has brought about a necessary transition that many experts have been calling for. This is a view summed up in the words of one leading credit risk expert speaking to Russell, who asked me recently “how does the industry need to adjust itself for the future?”

Firstly, there needs to be a change in the mindset across the credit market. At the heart of this, there needs to be a reappraisal of credit risk that takes a longer rather than a short-term view. Typically, a credit underwriter will assess the credit exposure of an organisation within a 90-day window.

That short-term mindset ignores other broader questions. For example, if a credit underwriter is insuring clients in the retail business rather than looking at the end client insured, surely they should examine other factors such as, say, the rise in online retail or the changing habits of consumers? What are underlying data trends, in other words?

Changing cultural mindsets is one step and the second step is good data and analytics. By data, I am not referring to quantity but quality, data that can be used to give credit (re)insurers an understanding of their insureds but also the market that the insureds sits in.

Underwriters also need to ascertain those parts of the client’s business, which are critically reliant on global trade and the potential for disruption as major infrastructure projects grow in size and complexity while supply chains become more extended and connected. As global trade takes on a more positive trajectory, the threats posed need to be evaluated and the internal processes and controls being used to mitigate the risks need to be reviewed. Secondly, a consultancy approach needs to be adopted which helps insurers and their clients to understand their risk profile and embed controls within the operation to mitigate such risk. Thirdly, underwriters need to capture better data on the relationship between political risks and client risk profiles, so that potential threats can be evaluated and adequately priced for.

Of course, the COVID crisis could be seen as a huge opportunity for the credit insurance market. As has been noted recently, there is increasing awareness of a need for mitigating non-payment across more types of goods and services and the expansion of trade in various regions that demand credit insurance drives the growth of the global trade credit insurance market. Europe reportedly held the largest share in 2019, accounting for nearly two-fifths of the market. Trade credit insurance products have gained momentum during the pandemic as it protects business from unforeseen circumstances.

As per a report published by Allied Market Research, the global trade credit insurance market generated $9.38 billion 2019, and is anticipated to reach $18.14 billion by 2027, growing at a CAGR of 8.6% from 2020 to 2027.

However, predicting the outcome of the pandemic and the future business landscape that will arise out of it is best left to crystal ball gazers. In the meantime, if the credit market can change their perception of risk and gain access to better data then they will be in a stronger position to weather the future onslaught of claims once the Government support is lifted.

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Post Date: 04/03/2021

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