There’s an opportunity to pilot cyber ILS instruments: DeNexus

So long as deal economics are favourable and supported by a material sample of risk data, there’s an opportunity to pilot cyber insurance-linked securities (ILS) solutions, according to specialist provider of software for cyber risk quantification for large industrial and critical infrastructure corporates, DeNexus.

With cyber risk increasingly being discussed as a viable area for the ILS universe to participate in a meaningful, we spoke with Jose Seara, Founder and CEO of DeNexus, about the market and, importantly, what the firm is doing to help drive adoption of its tools in the ILS asset class.

“DeNexus subscribes to the view that if deal economics are favourable, underpinned by the material sample of risk data that the DeNexus platform brings to renewables, for example, there is an opportunity to pilot cyber-ILS instruments to demonstrate the viability and repeatability of cyber market ILS trades,” said Seara.

Expanding on the company’s efforts in the renewables sector, Seara explained that its portfolio of clients will provide by the end of this year real-time operational cyber data from inside from more than 10% of the North American renewables estate by capex ($300bn+), a sector that generates over $20 billion in revenues.

“Clearly, this is a material sample allowing real reduction in pools of errors in modelling outputs. Furthermore, this real-time, inside-sourced data (which is exclusive to second generation cyber quantification platforms like DeNexus) allows for dynamic responses to the fast-changing cyber threat.

“This evolving threat creates uncertainty and doubt about cyber because of the structural inability to apply historical event data to the models. It is important to note that the cyber threat is dynamic, ubiquitous and of course in the ultimate paradox, risk portfolios are already carrying cyber risk – they are just not getting paid for it,” said Seara.

So, with rising demand for cyber risk protection, and with ILS fund managers already carrying cyber amid a shift in the shape of risk portfolios, which DeNexus says is a reflection of much more business interruption exposure being moved to third party intangible (digital) assets, what might cyber ILS market look like in the future?

“We have to reflect upon the rationale for interest from ILS funds in Cyber ILS,” said Seara. “Some of this increased interest is fatalistic: the market is going to take us there at some point anyway, so we need to explore and learn”. Additionally, end investors – notably pension funds – have been concerned about the recent returns from ILS funds. They know that where their diversification protocols allow, cyber-ILS can be an opportunity to diversify the portfolio.

“Ultimately though, the funds and investors are already carrying some of the risk without being paid for it, and that simply can’t continue.”

Additionally, explained Seara, “If digital transformation is as fundamental to Net Carbon Zero as it appears – and if the cloud -enabled world is ubiquitous as trends out to 2030 suggest – then cyber risk capital opportunities are also going to be ubiquitous.”

But while the opportunity appears vast, DeNexus feels the starting point today is less promising, at least at the headline level.

“At the headline, the cyber reinsurance market has arguably stalled, with a very high proportion of insurers ceding their cyber risk – and where more retro is available to reinsurers, that proportion would likely be higher. But risk is concentrated here, and filling the gap to lubricate the cyber reinsurance market is a central driving opportunity for the growth of the cyber ILS class.

“Consequently, you would have to say that the scale of the opportunity for cyber-related ILS has the potential at least to equal the Property Cat market, certainly by 2030, if not before.”

Read stories about the potential for cyber insurance-linked securities (ILS) and cyber cat bonds here.