Joe Ziolkowski, chief executive officer and co-founder of Relm.
8 December 2022Article

The rise, not fall, of digital assets

Bermuda-domiciled Relm is the first regulated crypto insurer to hold Bermuda’s Innovative Insurer General Business licence and, in April, it launched Relm II, the world’s first fully regulated collateralised reinsurance business that can accept both fiat and crypto as collateral.

In an interview with Bermuda:Re+ILS, Joe Ziolkowski, chief executive officer and co-founder of Relm and Relm II, explained the company’s evolution.

Relm describeS its products as “insurance that doesn’t overrate your risk”. What does that mean?

There's been so little market participation in providing capacity for companies operating in new and emerging sectors and, in particular, in the digital asset space, and one of the things that a lot of insureds are faced with is predatory pricing that subjects them to an opportunistic pricing strategy. Our approach, on the other hand, is merit-based, account-focused underwriting. While there may be a ton of high-level risk associated with an asset manager that is managing a crypto-oriented fund, if those assets are being deployed–let's say in support of a bitcoin-backed, exchange-traded product, that's a more straight-forward risk profile than an asset manager who is deploying all those assets into a purely decentralised finance-focused investment strategy with limited liquidity.

We have a defined appetite to provide insurance to asset managers in the digital asset space but we're going to look at the investment strategy, current and projected AUM, counterparty risk, competency of the management team, the geographic location and sophistication of the investors, etc. and we're going to rate your coverage accordingly. We don't overrate risks in the sense that, we're not pricing punitively just because you're associated with a particular sector or asset class. We're really taking the time to make sure that we have a full understanding of who we're underwriting, why we're underwriting them for certain coverages, what those relevant premium exposure bases look like, and what we feel the true risk profile of that company is going forward, relative to a broad spectrum of higher and lower risk classes.

Can you give a practical example of that from your clients?

It's put us in a position to provide support to our accounts as they're trying to scale their business. For example, we have one particular client who's launching a custody solution and, as part of their custody initiative, they needed to put commercial crime insurance into place, specifically in respect of their custody architecture. But they haven't commercialised their operation yet and they needed to get this insurance in place in order to secure some stakeholder buy-in. Our approach was to take a deep dive into their technology and their security protocols; we understand that they have yet to generate any amount of exposure related to this policy because they’re not currently onboarding third-party digital assets into their care custody and control. So what we'll agree to do is support them with a commercial crime insurance policy, while ensuring that we have appropriate endorsements and restrictions within the policy that allow us to review and re-price exposure later in the policy period when they begin onboarding third-party digital assets for safe custody.

That approach has a huge impact on pricing. If we're tasked with pricing commercial crime insurance for a digital asset custodian, that is not yet in a position to onboard third-party digital assets, our exposure to loss is low and, some would argue, zero. So we would incept coverage at a low initial premium to get them the coverage that they need in order to secure the stakeholder buy-in, advance their business model and strategy, and then rationally work with them on revised exposure KPIs relative to the volume and type of assets under custody, and make sure that, prospectively, our coverage is priced accordingly once they become operational.

That would be a pretty tangible example of how we're able to disassociate the headline risk with frauds and thefts and other unforeseen causes of loss, and focus on what we feel is a great account with solid security protocols and core technology that needs regulated insurance protection to satisfy the minimum insurance requirements from certain stakeholders along that journey. We want to provide that support early on and continue to support them, but do so in a manner whereby the cost of coverage is commensurate with the actual exposure from their commercial offering. And we have full transparency that, as the exposure becomes real and increases, we're going to work in a very collaborative fashion to make sure we can continue to support them, and that we're collecting enough premium along the way to account for the potential variables to the exposure.

Does that mean that the limits are different for them?

They could be, yes. We've had scenarios where we'll create an endorsement that increases limits mid-term, along with the payment of an additional premium to the extent that they've reached certain pre-agreed milestones related to whatever it is we are underwriting. There have been other examples where we have clients we support with directors & officers liability insurance and they're in a position where they are pre-revenue and burning cash. When you're underwriting directors & officers liability, a primary consideration is understanding the ongoing solvency of the company. So, if we're very transparently looking at a cash runway with our prospective insured, along with our brokers, and we're all acknowledging that they have a six-month cash runway, in the absence of rock-solid clarity on the near-term financing strategy, the idea of issuing a 12-month policy is bad for Relm, but providing the insured with zero coverage is bad for them.

In those cases, sometimes we'll agree to offer a six-month policy with an automatic extension to the extent they can secure funding within an agreed upon timeframe. At that point, we would revise and reprice go-forward coverage. Alternatively, if they fail to secure funding, then all parties are aware that we can't continue providing coverage beyond the point at which we think you're going to remain a going concern.

So, we take a really granular and account-specific approach to try and find a way to provide coverage to the companies that we think deserve the support, and are willing to provide us with all the information that we need in order to make informed underwriting decisions. And we try to ensure that the premium we're charging these accounts is commensurate with what we think the ultimate exposure is or likely will be. And it doesn't mean it's cheap, by any stretch of imagination, but it also doesn't mean that it's punitive and without merit.

What would be a “deserving” client?

It's the companies that have really tried to position themselves as favourably as possible for scrutiny from external stakeholders–customers, auditors, regulators, investors and underwriters. They've taken the time to assemble a credible management team. They've taken the time to obtain a capital structure that's beneficial for the company and has strategic buy-in from investors that are going to help the company scale its operations. They've developed a governance framework, where there is a semblance of internal controls. They've deployed resources to build out compliance infrastructure. They have compelling products and services that they can bring to market in a reasonable amount of time. And they also have an investor deck in most cases that's not over-inflating their valuation or over-promising their ability to achieve certain milestones within a certain period of time.

In a sea of hyperbole and unregulated operations and murkiness, the companies that are trying to position themselves as the legitimate and credible players are usually identifiable; if you're willing to go on this onion-peeling-effort with them; to hear them out initially, to try and understand how they're going to be making money, to understand what their business model is and their willingness to go back and forth on the Q&A in order to put us in a position to make some underwriting decisions. That, to me, is an account that deserves coverage. And that doesn't necessarily mean you're big and mature, and operating profitably; it could mean that, you're very early stage, pre-revenue, looking to raise your first round. It could mean you're regulated, or you're unregulated. At the end of the day, we want to make sure that we are able to engage with these prospective insureds, with the support of our broking partners, in a manner that allows us to feel comfortable about providing the support that these companies actually need in order to continue to push their endeavours forward.

Relm is "the world's leading crypto insurer". How do you measure that?

It's really a function of the fact that we were the first capacity provider that created a business model to provide informed and dedicated support to the digital asset ecosystem as a whole. That's not to say that nobody was insuring companies operating the digital asset space before we came around, in early 2020, but it was sporadic, ephemeral capacity; here today, non-renewed tomorrow. Our whole perspective was, we believe in this technology, we understand that there are going to be moments of volatility along the way, and that there are going to be hiccups. But the core initiative of utilising this technology, to bring enhanced transparency and efficiency to the major aspects of our financial ecosystem, whether it's financial services, or real estate, or healthcare, or technology in general, is real. And we want to make sure that we're building a team and a business model that are geared towards supporting companies operating in this rapidly evolving space.

What that's translated into, over the last 3 years, is we've reviewed thousands of submissions, we've covered a broad spectrum of companies operating in more than 30 countries around the world, at every sub-sector within the digital asset ecosystem. And we’ve built global distribution: our distribution network now comprises nearly 40 brokers from around the world that place business with us. Anecdotally, we're providing more capacity to these companies than any other market in the world.

If you're already leading, where do you go next?

Product development initiatives. We've created some really cool products already and are collaborating closely with some of our most prominent insureds to create new insurance products, such as ‘slashing’ insurance and versions of ‘smart contract failure’ that we know are relevant and can be distributed on a global basis.

Slashing in decentralised finance ties back to the different consensus mechanisms that secure different blockchains. One of those consensus mechanisms is called ‘proof-of-stake’ and, in a proof of stake consensus mechanism, the blockchain enforces security by the participants that are helping validate transactions on the network, by forcing them to stake a certain amount of assets on their node; understanding that, if they act accordingly and they timely validate appropriate transactions in support of the blockchain network, then they're going to be rewarded with what's called a staking reward. But if they act maliciously, in an attempt to defraud the blockchain or validate illegitimate transactions, then the stake that they were required to post as part of their validation onboarding, becomes ‘slashed’. And that stake could be the equivalent of hundreds of millions of dollars in digital assets.

Slashing insurance has come about because, if you want to act as a validator on a number of different networks, then you really need professional infrastructure in order to make sure that all of your equipment and your validating resources are operating as efficiently as possible. And so, the way that the space has evolved is that there are actually professional staking firms that are onboarding assets from investors (oftentimes, institutional investors) that want to generate a return from staking rewards but do not want to be responsible for managing their own validator nodes. What they end up doing is onboarding a significant volume of assets with these professional staking firms and, in the event that there are slashing penalties that arise from validator mismanagement, we have created an insurance product that will effectively give the investors a source of financial recovery.

Slashing can affect reputation and so is it part of D&O liability?

It could definitely impact D&O insurance. If we're providing directors and officers liability insurance to a professional staking firm and there are losses arising from a significant slashing event, there could be reputational fallout leading to a loss of value in the company. Any time there are events that precipitate a material decrease in share value, you are exposed to D&O claims from investors claiming financial damage from, among other things, poor decision making by management.

What's the difference between Relm and Relm II?

Relm is a general insurer that’s writing coverage for our prospective insureds and our current insureds around the globe through our traditional broker distribution network. Relm II, on the other hand is a form of a collateralised reinsurance facility that gives us the ability to work with aligned investor capital to create a reinsurance marketplace that just doesn't exist in the traditional reinsurance world right now. So, when you look at all of the challenges that companies in emerging sectors–whether it's digital assets, or cannabis, or alternative therapeutics, or online gaming, or fintech–when you look at the challenges that these companies have in obtaining primary insurance, we have the same problems obtaining reinsurance. And notwithstanding the fact that we have two years’ worth of audited financials from Deloitte, we have a scaling book of meaningful premiums with great loss experience, the pace at which insurance and reinsurance capital evolves is slower than the pace of innovation. And so, in order for us to be able to go to market with higher limits of protection while managing exposure to our balance sheet, we have to look toward alternative reinsurance solutions. Therefore, we set up Relm II earlier this year as the first collateralised reinsurance facility that can accept both fiat and digital assets as regulated collateral for reinsurance purposes.

How's that going?

It's a lot of potential energy. We successfully obtained authorisation for Relm II at the end of May of 2022. In June and July of 2022, the digital asset space saw the collapse of the Luna, Three Arrows Capital and Voyager Digital. Since then, we've had a kind of market malaise that has impacted our ability to execute on what we know is a tangible strategy–to use this new asset class to create reinsurance capacity, not just for emerging risks, or traditional risks that we're currently underwriting for new and emerging sectors, but this facility could also utilise digital assets to provide capacity for traditional exposures. If you think about what's going on in the property catastrophe space right now, we have this major 1/1 renewal coming up for US Cat risks and, by all accounts, there is a shortfall in capacity leading up to this 1/1 renewal.

Could we look to this new asset class, utilising bitcoin or ethereum or fiat-backed stable coin, in a regulated transparent facility in the exact same way that we're putting fiat to work in collateralised reinsurance vehicles and use that as a new source of collateral to support traditional risks? My response to that is: absolutely, that's possible. And really, the existence of our authorised infrastructure puts us one step closer toward demonstrating another really compelling use case for digital assets: to create capacity for both new risks and also solve problems for traditional risks where there may be a shortfall in traditional capital.

What’s you view of insurance using cryptocurrency only and not cash?

I think there's some real opportunity and relevance if you think about all the companies that are holding a significant amount of bitcoin, for example. The entire bitcoin mining sector, by and large, exists to mine BTC, and that BTC is held in safe custody, typically with a third party custodian. If that custodian wants to approach their clientele with a market leading risk transfer proposition for their mining clients, that crime insurance policy, I would argue, should have an option to be denominated in BTC, instead of USD. If there's a theft event, as a client of the custodian, do I want to be reimbursed in USD for my BTC, or do I want to be reimbursed in BTC? And, of course, the answer resoundingly among any entity or individual that is holding bitcoin, would be BTC. Similarly, for slashing insurance. If we're providing slashing protection for staked ethereum, if that ETH is slashed, do you think that investor wants to be made whole again with USD, or do they want their ETH? Of course, they're going to want their ETH back.

So, in these instances, crypto-denominated limits make all the sense in the world and it only further demonstrates the importance of the Innovative Insurer General Business licence that we have in Bermuda which actually allows us to start building reserves denominated in the currency in which our policy limits are denominated. If the assets and liabilities are matched in currency, it shouldn't matter really if that currency is USD or BTC. And the framework that the Bermuda Regulatory Authority (BMA) has is really forward thinking, in terms of allowing insurance companies to denominate limits in a currency that makes the most sense for the sectors they are targeting, without penalising them from a solvency standpoint. Our IIGB licenses enables us to  take credit for those assets in a certain way for solvency purposes. And so, it's an opportunity to create more tailored and responsive insurance coverages and products, while putting insurance companies in a position to evolve the way that they're creating a capital structure. It's a really interesting and absolutely relevant opportunity.

How does the BMA compare with regulators in other jurisdictions?

I've operated from an insurance standpoint in six or seven jurisdictions around the world, both US and non-US, and the BMA are among the most sophisticated and credible–they do not pull any punches. They're an extremely competent group of regulators that holds the reputation of Bermuda in the highest regard, but they also understand the importance of the role that Bermuda can play as a forward looking jurisdiction to solve some of the most complex risks and problems in the insurance and reinsurance space. And the BMA has proven their ability to oversee some of the biggest balance sheets and most complicated insurance and reinsurance transactions over the last 40 years.

When you combine the credibility of Bermuda with the fact that they were one of the first jurisdictions, back in 2018, to create a legislative framework around the regulation of digital asset businesses–to be able to talk to the same regulators that have been overseeing some of the most prominent players in insurance and reinsurance, who are also are keenly aware of the pros and cons of the technology underlying the digital asset space–it was a perfect set of facts and circumstances to domicile Relm on a go-forward basis.

DESCRIBE Bermuda AS A host FOR insurtech.

Bermuda has resources in the form of human capital that you're just not going to find in another jurisdiction with a full-time population of approximately 60,000. I mean, auditors, legal, insurance, reinsurance, regulatory and compliance; it's an amazing cross-section of talent that exists within the jurisdiction, that puts companies like Relm in a position to actually scale and become relevant. If you look at the types of insurtechs that are coming to Bermuda, there are companies that are pursuing some really amazing initiatives including the creation a decentralised insurance marketplace. That idea creates an opportunity to realise efficiency between insurance buyer and capacity provider; a disintermediated way for insurance and capacity providers to come together to create a commercial solution. There are climate-related initiatives in Bermuda that have absolutely nothing to do with digital assets, but have everything to do with utilising technology to solve really complicated problems that aren't going to be solved with a 12-month policy, or a 24-month policy, but may actually need a 15-year or 30-year policy, and a way to create these types of risk transfer mechanisms. Bermuda is an incubator for some of the coolest “stuff” happening in insurance.

How will your product lines develop?

We continue to add product lines for the sectors that we're serving and we're able to do that because, the deeper into the sectors we go, the more perspective we have on problems that can be solved with insurance products. Our proposition is not just that we can underwrite directors and officers liability insurance or commercial crime for companies in the digital asset sector, it's that we can provide tailored coverage in a way that actually speaks to the exposures arising from these unique operations, and then also bring to market new products that are going to help companies scale. And we've done the same thing for companies operating in cannabis and alternative therapeutics.

So much of what we’ve spoken about today has to do with digital assets, but that’s just one area of focus for our team. Our long-term strategy is to make innovation more resilient. We seek to continually identify emerging risk opportunities, and become experts in solution delivery for complex risks. We want to  provide support in a way that helps build resiliency within some of these sectors and areas of risk, where there isn't much resiliency. So climate risk is absolutely within the crosshairs of something that we are going to be putting resources behind on a long-term basis.

When you look at longevity risk for humans, the potential for quantum computing, artificial intelligence and machine learning, these are all things that are going to have a profound impact, not just on our lives individually, but the way companies operate and trade, and the way people make decisions on where to live and where buildings are being constructed. It's such a massive apple to take a bite out of, but what we're really trying to do is to make informed decisions on where our capacity can be best utilised and ideally remain ahead of the market.

Bermuda is a great place to be able to really leverage that type of a mindset and build a team around, but certainly climate risk is on everybody's mind. The biggest insurance and reinsurance companies in the world have been thinking about this for a long time, and we hope to be able to help move the needle in some of those discussions as well.

What might a bolt-on be?

The sectors we serve now are digital assets, cannabis, psychedelics, online gaming, eSports and fintech. This time next year, the objective would be to identify another emerging sector that we can build a product around, that we can gain access to, from a distribution standpoint, and start deploying capacity, and that creates diversification within our book.

The most stimulating and interesting things that I've done over my career have been utilising alternative risk transfer and financing strategies to help insureds achieve outcomes that aren’t possible in the traditional insurance marketplace. Typically these are complex risks or insurance product development initiatives where we utilise different types of regulated insurance infrastructure and alternative capital to create capacity. The idea of working on the fringe to solve problems with risk transfer strategies has always been something that I've found amazingly interesting. That background was a great segue into conceiving the purpose of Relm.

In 2017, when I started investing in digital assets and realising the potential of this technology, I had the opportunity to meet some of the people who were pushing the envelope on products and services, and trying to build a team and raise capital to push these initiatives forward. I was able to understand the growing momentum behind this really important technology, but I was also aware of the difficulty in securing insurance coverage due to a major void in appetite from insurers. There was no dedicated capacity to support these companies.

So, looking back to 2017, I was able to combine my interest in complex risks with a really intense interest in what was going on in the digital asset space–it was a perfect crossroads of opportunity, of market insight and interests, that I think put us in a great position to launch Relm and do it in a way that's hopefully a value-add for the emerging risks sectors we support.

How are you reflecting on 2022?

2022 has ended on a pretty sombre note for the digital asset space. We’ve just had the implosion of FTX, which is arguably one of the top two or three largest exchanges globally. The downfall of FTX is  having a significant impact on the entire digital asset space but I think the outcome is ultimately going to be positive. It's going to force companies to operate in a more appropriate manner as it relates to things like governance, risk, compliance, internal controls, transparency and regulation. It's going to force regulators to create clarity around what's appropriate, what's not appropriate. It’s going to force investors to be more careful about how they deploy their capital including more scrutiny than ever on the competency of the management team. It is a point of turmoil for the digital asset space but on the backside of it, is a point of rapid maturity for an industry that has so much promise. The industry has been running a bit fast and loose up until this point, and there's zero room for error going forward. The strong will survive; it's only going to make these companies in the sector better, more resilient and more effective. Short-term pain, long-term gain.

Was THE FTX COLLAPSE an accident waiting to happen?

I can candidly state that it took us by surprise. It took the entire market by surprise, and for a lot of different reasons, but that's the nature of operating in new sectors. You have to ensure you’re taking the necessary steps to arrive at a point of clarity regarding the risk of participation. You think you're doing all the appropriate due diligence but you’re going to have some misses.

Some of the smartest investors in the world invested literal billions of dollars into FTX, and they are sitting there wondering how this could have possibly happened. It's really unfortunate but it also magnifies the importance of having the appropriate risk management and regulated insurance coverage in place when unforeseen events happen. That's what insurance is ultimately for and I think these companies are now realising the importance of having real insurance as part of their maturing risk management infrastructure.

As it specifically relates to our business, Relm provides insurance coverage to West Realm Shires Inc. (commonly known as FTX.US) and FTX Australia Pty Ltd. We also provide insurance coverage to companies that have been compromised due to their relationship with FTX and Alameda and we are actively assessing the extent to which our coverage could be triggered. Accounting for the potential for direct and indirect losses, we have allocated a portion of our general reserve for both known and unknown claims related to this market impact. Following a detailed review of our entire portfolio, we remain confident that we will continue to be well-capitalised to serve the needs of the industry as the fallout from this event evolves. On the asset side of our balance sheet, we have remained highly conservative with approximately 95% of our assets in cash or US Treasury Bills.

Relm is committed to the digital asset space; not just by issuing policies and collecting premiums but also by paying legitimate, covered claims. We genuinely believe in the potential of distributed ledger technology, and that belief informs a major part of our underwriting appetite for innovation. Our commitment to the support and rebuilding of this sector during and following this trying time remains unwavering.

Will the size of limits need to change in THE coverage OF digital assets?

Yes. There's not a lot of participation from reinsurers currently, and there’s a chance that the fallout from FTX could hamper market participation. So, it is a setback for the digital asset space and, to a lesser extent, it's likely a setback for those insurers that were planning to dip their toe in the water in 2023. But it is not an evisceration of the relevance of digital assets. This is important technology that's going to continue to stay relevant and, as an insurer that has provided more limits of capacity than any other insurer in the world, we remain steadfastly committed to our existing insureds and to continuing to build products that are going to be relevant to the industry going forward.

Relm Insurance Ltd. (Relm) is a Bermuda-domiciled specialty insurance carrier serving emerging industries, with a focus on digital assets/Web3.0, cannabis and psychedelics. Launched in 2019 to address the scarcity of traditional insurance capacity available to nascent markets, Relm is playing an active role in bolstering the resilience of the industries it serves. Relm is licensed and regulated by the Bermuda Monetary Authority and holds an ‘A, Exceptional’ Financial Stability Rating from Demotech, Inc., a Nationally Recognized Statistical Rating Organization (NRSRO) serving the insurance industry.