Insurers to Choose the Right AI Strategy for LIBOR Transition

The insurance industry may not be the first industry that comes to mind when considering the impact of the EU Benchmark Regulation, writes Mathias Strasser, CEO of Scissero, a London-based AI legal platform.  Insurance companies borrow money and, more importantly, use a broad array of OTC derivatives to manage their risk.  In both cases, some form of benchmark interest rate is likely to be involved.  They also use LIBOR in their actuarial models and for asset/liability management.

As such, insurance companies – much like banks, debt funds and other participants in the financial services industry – will have to develop effective strategies to deal with one of the most profound changes in the financial sector in recent memory: the shift away from legacy benchmark interest rates to overnight rates published by central banks.

One of the many operational issues presented by this shift is the repapering of contracts that refer to a legacy rate and extend beyond the transition date.

While ISDA has been very active since 2016 to ensure a smooth transition for OTC derivatives that were traded based on an ISDA master agreement, there are many instances that are not covered by the ISDA process.  This includes:

– Non-centrally cleared derivatives entered into based on an ISDA master agreement where the counterparty does not sign up the relevant protocol
– Transactions where an ISDA master agreement is in place but the transaction itself was not entered into on the basis of the agreement
– Transactions where no ISDA master agreement is in place

In these cases, the choice of the appropriate repapering strategy is critical.  Options range from hiring a large consulting firm or law firm to relying on technology as much as possible.

Experience to date suggests that the smartest approach may be to take the middle road: use a technology solution to extract data from legacy contracts, generate amendments and manage the workflow and pair it up with a law firm or managed services provider to provide back-up and handle tasks that the machine alone cannot handle.  This harnesses the power of automation, while saving costs.

The trouble is how to see the wood for the trees. There is a glut of technology companies offering artificial intelligence solutions that purportedly cover the process from beginning to end.  Without going through the laborious task of testing each and every one of them, which requires months of training, it is very hard to know which work and which do not.  The fact that some technology companies may have overpromised has led law firms to step in and pitch wholly manual services with only token automation added on the back.  Identifying the right approach and finding the right partner can be daunting, but it is worth the effort.

LIBOR also presents a good opportunity for insurance companies to further their digitalization agenda more generally.  In addition to adopting automated data extraction solutions, this can include centrally contract management platforms with automated generation and negotiation capabilities.

The possibilities are endless.  As always, making the right choices is the difficult part.  In that regard, insurance companies may be in an even tougher position than banks, many of which are much further along on their automation journey and already have a core set of technologies in place on which they can build.