Coinbase is involved in deep talks with Aon with an aim of creating a regulated ‘captive’ insurance company to shield its clients from hackings and unexpected loss of funds.
Coinbase confirmed that it is in talks with Aon to set up a regulated insurance company. Creating ‘captive’ insurance subsidiaries fully owned by the insured firm enables corporations to minimize costs while enhancing access to reinsurance markets. Nearly all Fortune 500 companies and midsize firms maintain captives.
Sources reveal that Coinbase and Aon think the new structure has the potential to offer solutions to the shortage of insurance services available to crypto exchanges. Though Coinbase has more coverage than most, exchanges are known to self-insure by setting aside some tokens to cover losses if hackings or disappearance of customer funds occurs.
However, self-insurance has no formal structure making it highly likely for exchanges to access the ‘insurance funds’ for other purposes. It also remains ambiguous about how much coverage a firm actually has. On the other hand, captive ensures that funds remain set aside and held in an audited, regulated vehicle. That enables the firm to strive for more cover from the reinsurance market.
The captive insurance subsidiary will cover only its parent company and not competitors. Aon said that it established the sector’s first crypto captive earlier this year for a client it did not name. The broker explained that the Caymans Islands-based captive will write “crime” policies. It will cover hacks of the hot/online wallets and ‘specie’ coverage for crypto stored offline in cold storage.
It is not the first time that the companies are working together. In April, Aon was involved in the arrangement of around $255 million in coverage for Coinbase’s hot wallets. At the height of the 2017 Bull Run, Coinbase held $25 billion of crypto. It keeps just 2% of the client funds in hot wallets. Aon expects Bermuda and some leading U.S. on-shore domiciles to follow the Caymans soon.
The Captives Strategy
A captive company is described as an insurance company created and fully owned by another company to offer coverage for itself. It is a regulated alternative to self-insurance. It can provide direct access to the reinsurance markets while simultaneously acting as an insurance vehicle. The captives formalize self-insurance with reporting on capital and reserve requirements.
According to a managing director and the financial institution’s practice leader at Aon, Jacqueline Quintal, exchanges are uncomfortable with what is available in the current marketplace. Thus, they are searching for alternative solutions. She said:
“I think the path for most will be to buy some amount of traditional insurance first and then to explore alternative structures, potentially including a captive — and we are having more and more of these conversations.”
Commenting on the benefits of using captive instead of simple self-insurance, Quintal added:
“If a firm is self-insuring, they’ve accepted responsibility for funding 100% of any loss. Captives, in comparison, provide a means through which firms can access insurance or reinsurance, while also pre-funding self-insured loss amounts in a more formal way than simply setting aside capital.”
Taking a formal and regulated approach can help create more capacity in the market. The Captives method may help bring down the price of risk financing over time by controlling the firm’s insurance program. Ward Ching, managing director, Aon Captive Insurance Managers believes that for the captive to work, crypto firms would have to keep most of the claim reserves in fiat.
Are captives the new trend for crypto exchange insurance? Time will tell.