Insurers gingerly test bitcoin business with heist policies

This article first appeared in The Edge Financial Daily, on February 5, 2018.
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MAJOR global insurers are starting to offer protection against cryptocurrency theft, willing to tackle daunting challenges it brings rather than miss out on this volatile and loosely regulated, but rapidly growing business.

So far only a few insurers sell such insurance, including XL Catlin, Chubb, and Mitsui Sumitomo Insurance. Yet several others have said they are looking into theft coverage for companies that handle digital currencies.

Such efforts so far have garnered little attention, but the emergence of an insurance market marks an important step for the nascent industry’s mainstream recognition.

The risks are clear: digital currency investors have already lost billions from dozens of cryptocurrency hacks, technical errors and fraud. Many hacked exchanges later shuttered.

On Friday Jan 26, Tokyo-based exchange Coincheck became the latest casualty, reporting a loss of around US$534 million (RM2.08 billion) worth of coins to hackers.
For insurers the challenge is how to cover those risks for customers they know little about.

Christopher Liu, who heads American International Group Inc’s (AIG) North American cyber insurance practice for financial institutions, said the answer is to find an established business with a similar risk profile and try to adapt what works there.

“It’s sort of akin to a digital armoured car service,” he said about cryptocurrency firms. “If there is a problem — like an accident or a robbery — that’s going to be the accumulation of all these exposures.” 

Greg Bangs, head of XL Catlin’s North America crime coverage underwriting recounts how the firm had to become its own expert on the new technology by talking to key players and potential clients before developing bitcoin theft insurance.

“The first challenge for us was to figure out if there was a product here.” XL Catlin now offers annual crime coverage of up to US$25 million per incident, Bangs said.

Shady companies

Knowing the customer also takes on special importance.

Jackie Quintal, who advises financial institutions for insurance broker Aon plc, said part of her job is to tell legitimate digital currency companies from shady ones, something that often gets cleared up even before an insurer gets involved.

“If someone is hesitant to provide information and they don’t have answers to compliance questions, they tend to disappear on their own,” she said.

“Some bitcoin exchanges and wallets weren’t anticipating the level of underwriting and due diligence that they undergo when they approach the market,” said Matt Prevost, who heads Chubb’s North American Cyber Product Line.

Insurers like Chubb are betting that cryptocurrencies will gain wider recognition even if the new business now represents only a tiny sliver of the global US$720 billion per year commercial insurance business.

Digital coin sales raised more than US$5 billion across nearly 800 deals in 2017, according to venture capital data provider CB Insights. There are no estimates yet how much of that has been insured or of total premiums collected.

Cool on ‘hot storage’

Many insurers remain wary of the new business. Some, like Great American Insurance Group, an American Financial Group Inc unit, offer protection from employee theft to companies that accept bitcoin payments, but avoid outside risks, such as hacking. 

Others will avoid coverage for coins kept online, or in “hot storage,” because of high risk of hacking and will only cover offline “cold storage,” which is also generally preferred by cryptocurrency companies.
 
Coinbase, a leading cryptocurrency exchange available in 32 countries, says on its website it holds less than 2% of customer funds online and that those funds are insured.

Lloyd’s of London, the world’s largest insurance marketplace, was providing insurance to the exchange, according to a person familiar with the matter. 
Some insurers are not yet convinced the cryptocurrency business is large enough for premiums to cover possible losses.

“We’re looking at it, but does it make sense to offer a market for that?” said Frank Scheckton, president of Great American’s Fidelity Crime Division.

Right now, costs act as a deterrent for small firms and start-ups, said Ty Sagalow, chief executive of Innovation Insurance Group LLC, which has been developing coverage for cryptocurrency companies since 2013.

Annual premiums for US$10 million in theft coverage would typically run at about US$200,000, or 2% of the limit, insurance experts say. That compares with about 1% or less for traditional financial clients, depending on the company, loss history and other factors.

Cameron Winklevoss, co-founder of Gemini, a cryptocurrency exchange and custodian, argues insurance should not be an investor’s primary concern.

As a registered New York trust company, Gemini carries state-mandated insurance against employee theft, computer fraud, and fund transfer fraud, but has no coverage for hacking, Winklevoss, who founded the firm with his twin brother Tyler, said.

Henry Sanderson, who oversees cyber and technology coverage for Safeonline LLP, a Lloyd’s broker, argues cryptocurrency insurance can help the young industry mature while creating new business for insurers.

This whole space is maturing and growing,” he said. “If we don’t embrace it now, it’s a missed opportunity for insurers.” — Reuters