Insurance companies are looking at more novel ways of spreading risk.

But the "securitisation of risk'' is described as a misnomer by new Centre Reinsurance Holdings Ltd. president, Mr. David Brown.

Mr. Brown, who has just taken over from Mr. Michael Palm at Centre Re, said, "Any security or stock you buy is a basket of risk. That's why you get rewarded for it. And at the lowest end, you can invest your money in the US Treasury and everybody assumes that the risk of losing your money or not getting your interest is so small that you don't even consider it.

"Anything beyond that with a higher return involves more risk. All this is nothing really new.'' Mr. Brown said that for those who want to invest on how well insurance companies price risk, they can already buy into an insurance company.

Companies are now looking at spreading risk onto a larger market.

The aggregate capital of insurance companies in the US for example may be in the region of $200-billion to $300-billion range. The financial markets, the much broader markets, are looking at availability of capital in the trillions of dollars. That's the stock markets, the futures and options markets, the derivative markets. Insurance is small by comparison.

The securitisation of risk is a way of accessing those markets without creating an insurance company or floating stock on the market. When capital availability decreases, rates get high. But then more people get into the market and then there is more capacity, and rates go lower, and capital leaves the market. That's been the history of the insurance company cycles.

The securitisation of insurance brings a more liquid pool of available capital and, it is theorised, stops the cyclical flow of capital into and out of the insurance market. The question is how do you take insurance risk of loss, which is associated with the benefit of premiums and the possibility of paying out losses, and make it understandable to the financial markets.

"There's a very good parallel,'' said Mr. Brown, "as to how that could help the market, by looking at mortgages in the US about 30 years ago. They kept the obligation for you on the books, but they found that if they bundled a whole lot of those mortgages together from banks, packaged them and sold them to third party investors (such as a (CMO) Collateralised Mortgage Obligation), in fact, it helped reduce the cost of primary mortgages.

"You are spreading the risk of default of those mortgages, spreading the volatility of payments, not in a small number of mortgages that each bank would issue, but in large multiples of mortgages. That was one effect, a spreading effect of risk.

"The other benefit was that different people have different tolerances for risk. One person might be a very risk-averse investor, accepting a very low return for a very certain cash flow.

"Then there are others who are very risk-tolerant investors, who are prepared to take great volatility, and even a chance of losing your money for the chance to make very high returns. And in between there is every different shade of investors tolerance to risk.

"If you are selling mortgages en bloc, there is only one risk characteristic, which is the blended average of all of them, and it only satisfies the average investor. By cutting mortgages into various slices, you can satisfy the needs of particular investors, therefore you get the capital most efficiently, by putting people in exactly where they want to be. That's what mortgages do.

"Securitising insurance risks is trying to do the same thing, effectively trying to package insurance risks into a simple vehicle that the markets can understand, that people can buy pieces of with risk characteristics that they can understand and want to participate in.'' There are simple examples, such as on the Chicago Board of Trade (CBOT), where they take catastrophe risks which have previously been written by insurance companies, and now package it into an index. The investor can put money down, taking a position of risk. What they make or lose is based on the index.

Mr. Brown said that insurance companies have made fairly poor returns on capital for shareholders over the last two decades. Therefore people who have been buying premiums, those actually buying insurance, have had a good deal.

Reinsurers have been looking for more profitable ways to provide capital and reinsurance capacity to insurers. Increasingly they have been looking to securitise their customers' risks.

In that regard, though they find much competition from investment banks who not only know how to get capital from private markets, but who think of securitisation as their domain. Securitising risk is being compared to Lloyd's of London's long time use of what they called "names'' to raise money, spreading risks among a lengthy list of investors. Now though, instead of using wealthy individuals like Lloyd's, the new model uses institutional investors through private placements. Jan H. Schut, writing in the Institutional Investor last July, discussed how Citibank Global Finance did one of the early such placements in 1993 for Hannover Reinsurance Co. in Germany, raising $100 million. The money was in the form of private equity offerings to less than 10 institutional investors.

Schut reported: "Essentially, investors were buying a stake in Hannover's business, sharing both the risks and the returns.''