Falling empire? London must face up to the changing world

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The market’s obsession with its position in the world does it credit and suggests a real willingness to transform and develop to meet the global challenges of the 21st century.

“If it ain’t broke, don’t fix it” is a reasonable maxim for business, as well as football teams, but the best time to consider a change can often be when things are going well, rather than after they have started to slide. It is in this spirit the London market finds itself gripped by a bout of existential, end-of-empire navel-gazing, questioning its very role in the modern world.

Yes, the market’s figures have been strong for the past few years and London exhibits many of the signs of a highly dynamic and successful market, but current global insurance trends have given enough cause for concern and justification for the soul-searching.

On the face of it, the market has turned in a sparkling performance. Lloyd’s notched up an aggregate pre-tax profit of £11.52bn ($18.47bn) over the five years to the end of 2013, with only 2011 proving unprofitable. The 2013 combined ratio was a remarkably low 86.8% and the ratio was comfortably below the 100% threshold in four of the five years, the exception being the 106.8% ratio in 2011. Gross premiums over the period climbed 18.8% to total £26.11bn in 2013.

The volatility of insurance generally, and in particular the kind of business the London market specialises in, means underwriters with more than a few years’ experience are aware unforeseen disasters can quickly disrupt a rosy financial picture. And London has not been the only strong performer during the recent period of abnormally benign major loss experience (tables 1 and 2 show the fairly modest loss events for the market last year, as tracked by Lloyd’s). The concern is London perhaps should have done rather better during the recent good years and may not be best placed for the challenges to come over the medium- to long-term.

The key reference document and call to arms is the London Matters report, released in the autumn by the London Market Group (LMG) and Boston Consulting Group, and providing analysis of where the market stands now and what it should be doing to improve its position in a rapidly changing world. The document delivers new research and includes the views of more than 300 market professionals and customers. The report is aimed not only at the market itself but also regulators, politicians and others of influence who have the means to make things easier or harder for the industry.

The report delivers the good news first. Viewing the market in its broader sense of covering business controlled by London as well as written there, it calculates gross premium in 2013 totalled £60.1bn, divided as shown in table 3. The figure is a fair bit higher than previous estimates, most recently the now annual exercise carried out by the International Underwriting Association (IUA), representing the company market in London. For 2013, the IUA put the company total written in London at £17.45bn plus an additional £6.83bn for business written elsewhere but controlled by London. Adding the resulting £24.28bn to Lloyd’s total of £26.11bn gives an overall market-wide figure of about £50.38bn.

At the time of producing the London Matters report, the market had more than 65 participating companies; 91 syndicates, managed by 56 managing agents; eight protection and indemnity clubs; and more than 200 brokers. Lloyd’s started 2015 with 82 active syndicates plus another 11 special-purpose syndicates (SPSs) providing dedicated quota-share support.

Bermuda produced an estimated gross premium in 2013 of £25bn, Zurich £19bn and Singapore £4bn, the report calculated, putting London in a favourable light. However, it is worth pointing out London’s premium total was a little less than the £62.4bn equivalent written by the world’s two largest reinsurance groups, Munich Re and Swiss Re, combined.

The LMG report produces some eye-grabbing statistics on the contribution of the London market to the UK economy, a particularly useful nudge for politicians and others who tend to focus on the banking branch of the wider financial services industry. The LMG calculates in 2013 the market made a £12bn direct contribution to the UK’s gross domestic product (GDP), representing 10% of the total financial services sector. Including indirect contributions, such as jobs created through ancillary professions, the market’s contribution to GDP rises to £21.1bn or 1.3% of the total for the country and 5.8% of the city of London’s GDP.

Examining global trends and the London market account in more detail gives a clearer view of London’s true position and future prospects, and this is where the concerns emerge. The market’s share of the global commercial industry between 2010 and 2013 remained stable at 10%, the LMG said, but its share of reinsurance fell to 13% from 15%.

London derived 33% of its premiums from the UK and the Irish Republic, 31% from North America and 16% from continental Europe, leaving not much from the rest of the world. The market has taken increased share in the UK, the US, Europe and Australasia but failed to match the rate of growth in the emerging markets of Asia, Latin America and Africa, where London’s share fell from 3.2% in 2010 to 2.5% in 2013.

“With the shift of global risk pools to these emerging markets, the London market’s global leadership in commercial insurance could increasingly become threatened,” the report concluded.

The report identifies six main challenges to London:

  • customers like to buy locally, putting 30% to 40% of London’s account at jeopardy;
  • London’s share of emerging market business is shrinking;
  • its share of reinsurance is shrinking as reinsurance purchasing is increasingly centralised and emerging market growth gains in importance;
  • expense ratios were nine percentage points above those of rivals due to higher acquisition and transaction costs;
  • the market falls under a comparatively high regulatory burden;
  • the prolonged soft market cycle challenges London’s role as the supplier of additional  capacity to meet local needs.

Swiftly followed by the following six opportunities the market has for enhancement:

  • meet unmet demand for new products to offset the commoditisation of more traditional risks;
  • upgrade analytical techniques, particularly to allow better risk selection;
  • invest in marketing, particularly for emerging markets;
  • break down barriers to business, including placing, and develop the distribution network, creating appropriate local presence;
  • reduce the cost of doing business by delivering on infrastructure activities; and
  • embrace the rise of alternative capital.

Using the LMG report as a springboard, Inga Beale, chief executive of Lloyd’s, delivered a rallying cry of a speech at an Insurance Institute of London event last week, calling on the market to look further afield to develop business from the high-growth emerging markets.

Insurance, and the London market in particular, had reached a crossroads, she told the audience: “There is a clear threat of new markets forming and reducing our share of global business. But London is currently the best-performing commercial insurance centre in the world and we are well placed to capitalise on these opportunities. Whether we succeed or fail will be determined by a number of factors. The most important will be how ambitious and how innovative you are prepared to be.”

The insured percentage of natural catastrophes affecting China, one of the world’s most vulnerable countries, is just 3%, she pointed out, and that is not the only emerging market offering tremendous opportunity.

Centrally, Lloyd’s cannot be accused of taking a sluggish approach to extending its reach. Last year, Lloyd’s gained licensing in Beijing; approval for an office in Dubai; a life licence in Poland; a direct licence for marine, aviation and transport primary insurance in Colombia; and approval to open a representative office in Mexico.

London remains an attractive location and a highly vibrant market. It attracts significant interest from insurance groups around the world looking for exposure to the market’s expertise for writing special lines business, and table 5 shows the largest deals of the past few years, most recently XL’s approach for Catlin. And table 6 gives an indication of the market’s vitality by showing a sample of some of the corporate developments of the last couple of months.

If the LMG hoped to provoke a swift response to the London Matters report from government, it succeeded. In his autumn statement, George Osborne, chancellor of the exchequer, announced the government would “explore options to ensure that the UK’s regulatory and tax regime is as competitive as possible to attract more reinsurance business to the UK”.

The initial findings will be reported at the budget in March, although election issues rather than reinsurance matters will be uppermost in politicians’ minds at that time and of course any new government this year may be less willing to even consider helping the insurance sector. Introducing better trading conditions for insurers is rarely a vote-winner.

The chancellor’s announcement is a bit late but welcome, although the industry can be forgiven for thinking “We’ll believe it when we see it”, given the history of similar initiatives to kick-start growth. In 2006, then chancellor of the exchequer Gordon Brown set up the High Level City Group to improve the trading landscape for all financial sectors, including insurance. Not much happened and the body was followed in 2008 by the Financial Services Global Competitiveness Group, initially to meet monthly, again with notable lack of action. Later that year followed the insurance working group of the treasury, which did at least produce one report in 2009.

More recently, the Treasury unveiled its “UK insurance growth action plan” in December 2013, which concluded with the words: “…the government is committed to ensuring the UK insurance sector is equipped for success in the global race – both in the near term but also in the decades to come. We look forward to working with industry and with investors to enhance the UK’s position as a global leader in a truly global industry”.

This message was underlined last week by Andrea Leadsom, economic secretary to the treasury, at a speech held at Lloyd’s (Insurance Day January 8), and later this month, Frank Carson, head of insurance and savings at the Treasury, is due to speak on the subject of “Challenge and opportunity for the sector – latest thinking from government” at an industry-political conference. The market will be looking forward to hearing some specifics.

Transforming London will take time but what’s immediately in store for the market? Most analysts expect a weakening of performance in 2015 in line with global trends that are affecting significant insurers and reinsurers in all established markets.

PwC interviewed a sample of more than 30 London market players before Christmas, identifying a reduction in confidence and an expectation of significant softening in most business lines. The only sector expected to be flat is aviation, and even here the heavily loss-hit war market is unlikely to be able to push through rate rises.

For all property reinsurance and energy business the market expects rate reductions this year of more than 10%, PwC found, and the analyst comments that in its experience the market has generally underestimated the size of rate changes. Energy suffers from surplus capacity, even for onshore risks where large loss incidence has been higher. Property reinsurers in London are under pressure from low interest rates, limited growth in the traditional sector, declining margins and the influx of alternative capital, and PwC predicts mid-sized generalists “could find it particularly hard to sustain investment and competitive relevance in this new environment”.

Bryan Joseph, global actuarial leader at the firm, said London reinsurers needed a radical rethink of where and how to compete. “Fighting over the commoditised crumbs or hunkering down in the hope of a more favourable rating environment is not a viable strategy for survival in the current market. Unless the undifferentiated generalists change tack, it’s only a matter of time before they’re absorbed or squeezed out of the market altogether,” he said. PwC identified about 40% of the market is at risk from this squeeze.

Research analyst Westhouse expects 2014 full-year figures will show another good performance before the market comes under stronger underwriting pressure in 2015, with investment returns unlikely to make up the shortfall. Still, the market has not yet reached a cliff, the analyst said, and should remain profitable, with the larger London groups continuing to outperform their peers. Westhouse favours those London businesses with liability or specialist expertise in the US market and particularly those with domestic US operations, such as Beazley, Catlin and Hiscox.

From an investor perspective, the major London groups should remain attractive because of their performance and a strong level of capital repatriation in the form of base and special dividends as well as special-purpose share schemes, Westhouse said.

Analysts have been predicting for some time that reserve releases from prior years will reduce across most lines, most relevantly for liability business. This is of particular significance for Lloyd’s, which derived 75.7% of its underwriting profit for the first half of 2014 from such releases. Figures are not available for the London company market players but the leading companies in the Bermudian international reinsurance sector gained about 35% of their underwriting profit for the same period from positive reserve development.

The rating agencies adopt a broadly consistent approach to London at the moment. Last month Fitch cut the outlook on its rating for the London market to negative from stable because of rating pressure, in line with the agency’s negative outlook for the reinsurance sector in general, and the threat from alternative capital. As London market players look to increase their liability and excess and surplus lines books to counter the weakening environment for reinsurance, so these other lines will fall under pressure, Fitch said.

Still, most London market underwriters would be able to withstand a big catastrophic loss over the next two years, Fitch said, and remain in position to take advantage of more positive rating afterwards.

Standard & Poor’s (S&P) eased back Lloyd’s positive rating of A+ to stable late last year due to a combination of deteriorating prices in reinsurance business and the mounting difficulty smaller syndicates will have maintaining pricing and market share. The agency credited Lloyd’s for its strong competitive position, diversification by line and the loyalty of its customers, and also welcomed efforts through the Lloyd’s Vision 2025 programme to develop operations in new geographic markets, but it stressed this was a work in progress and had produced limited diversification so far.

S&P said it expected Lloyd’s to deliver a return on capacity of 12% and a return on revenue of 10% to 15% over the years 2014 to 2016.

AM Best noted the weakening rating environment, especially for reinsurance, and also pointed to adverse developments in the broking community. Brokers are placing business with smaller panels of underwriters, putting the traditional subscription system under threat. “Following markets that have little to contribute beyond a small amount of capacity are falling off the bottom of the underwriting slip,” the analyst said.

At least the larger Lloyd’s groups have acted to increase the line size they can offer by joining forces with third-party capital to establish SPSs that operate in a similar way to the sidecar facilities that many Bermudians have set up. The 11 SPSs operating this year include Barbican syndicate 6120, backed by insurance-linked funds managed by Credit Suisse, with a starting capacity of £40m. Beazley disclosed in November it was in discussions with a third-party reinsurer with a view to providing reinsurance for syndicates 623 and 2623. Syndicate 2088, previously an SPS protecting Catlin 2003 and backed by China Reinsurance, has received approval to transform into a stand-alone syndicate for 2015, writing a broad book but mostly targeting reinsurance.

Brit has announced the formation of Versutus in Bermuda to provide quota-share support for the Lloyd’s group’s property cat book.

 

Table 1: Lloyd’s XIS catastrophe codes (2014 events)
Code

Event

Date

14A

Malaysia Airlines B777 loss

March 8

14B

Tripoli airport attacks

July 13 onwards

14C

Malaysia Airlines MH17 loss over Ukraine

July 17

14D

Hurricane Odile

September 13 to 19

14E

Hurricane Gonzalo

October 17 to 18

14F

Brisbane and southeast Queensland storms

November 27 to 28

Fume

Losses from fungal meningitis relating to New England Compounding Center

January 1

Crim

Losses relating to Crimea crisis

January 1

Qing

Losses from theft/misappropriation of metal in port of Qingdao

January 1

H40

Flooding, hail, tornadoes and wind across various US states

April 27 to 30

Source: Lloyd’s

 

 

Table 2: Lloyd’s major loss codes (2014 events)
Code

Event

Date

14ZA

JLB Houston fire

March 25

14ZB

Hillshire Brands fire, Storm Lake

March 22

14ZC

Ferry Sewol

April 16

14ZD

Menadrill blowout/fire

March 22

14ZE

Nebraska tornadoes PCS H45

June 3

14ZF

Kirby Corp oil barge collision

March 22

14ZG

Power plant machinery breakdown

April 21

14ZH

Rosneft, Achinsk refinery explosion

June 15

14ZJ

Nebraska storms

June 3

14ZK

Individual death

June 29

14ZL

Transasia Corp crash, Penghu Island

July 23

14ZM

Asian Empire, fire on deck

April 6

14ZN

AMT Explorer capsize with loss of cargo

July 3

14ZP

Air Algerie loss of contact with aircraft

July 24

14ZQ

US hail crop season losses

August 1

14ZR

Serovskaya GRES unit damage

June 19

14ZS

Cyclone Ita, damage to Lizard Island resort, Australia

January 1

Source: Lloyd’s

 

 

Table 3: London market gross premium income 2013, £bn
Class

Company market

Lloyd’s

London market total

Reinsurance*

6.9

7.8

14.6

Property

2.5

5.2

7.7

Liability

2.9

4.0

6.9

Marine†

¶3.1

2.7

5.9

Energy†

0.5

2.4

2.9

Aviation†

0.9

1.0

1.9

Motor

1.0

1.2

2.2

Other‡

1.2

1.8

3.0

Total

19.0

26.1

45.1

Overall total including “managed by” business

60.1

*treaty and facultative for all classes except marine, energy and aviation for which treaty only
†includes insurance and facultative reinsurance
‡accident and health, contingency, surety
¶includes P&I business
Source: IUA, Lloyd’s, LMG, BCG, London Matters report

 

 

Table 4: Lloyd’s market performance, first half
Company

Currency

Gross written premium

Change %

Net written premium

Underwriting result

Combined ratio %

Pre-tax result

2013

2014

2013

2014

2013

2014

2013

2014

2013

2014

Advent

$m

162.5

129.9

(20.1)

116.9

90.1

(2.2)

0.1

102.5

99.9

(5.2)

63.4

Amlin plc

£m

1838.9

1891.2

2.8

1525.2

1637.2

158.2

141.6

85.0

87.0

161.4

148.5

Amlin London

£m

808.2

868.3

7.4

519.1

616.9

87.1

62.1

76.0

86.0

†89.0

†74.3

Argo syndicate 1200

$m

311.0

297.1

(4.5)

*198.3

*201.5

12.9

20.2

93.4

90.0

18.2

25.9

Atrium (Enstar)

$m

*66.6

**4.4

102.6

6.2

Beazley

$m

1066.7

1077.7

1.0

758.0

889.2

**154.2

**172.0

89.0

90.0

82.3

132.9

Brit (group)

£m

671.2

701.2

509.9

548.6

61.7

56.5

86.2

88.3

75.4

61.5

Cathedral (Lancashire)

$m

190.2

140.7

33.1

68.3

Catlin (group)

$m

3299.0

3660.0

10.9

2437.0

2607.0

441.0

536.0

88.1

85.0

145.0

318.0

Catlin London/UK division

$m

1473.0

1639.0

11.3

*902.0

*964.0

253.0

278.0

††47.9

††47.0

Chaucer (Hanover)

$m

795.1

882.4

11.0

602.0

678.2

57.7

60.8

88.2

90.0

†77.8

†87.3

Hiscox (group)

£m

1017.9

978.9

(3.8)

770.2

739.6

**244.5

**246.9

74.7

82.0

180.7

124.6

Hiscox London market division

£m

248.1

251.7

1.5

187.6

189.5

**46.0

**40.3

67.0

87.2

48.1

24.8

Hiscox Re¶

£m

346.3

271.5

(21.6)

197.1

125.1

**72.1

**82.0

56.6

41.8

65.6

75.6

Liberty Specialty Markets

$m

1490.0

1557.0

Montpelier 5151

$m

128.7

142.7

10.9

110.7

128.4

(6.1)

14.5

105.9

87.5

18.4

2.9

Navigators 1221

$m

195.2

216.1

10.7

108.2

135.7

8.6

5.2

91.2

95.4

12.2

16.8

Novae

£m

361.8

362.6

0.2

295.9

287.0

10.4

19.7

96.0

91.0

21.1

21.3

RenRe 1458

$m

143.1

155.2

8.5

120.6

131.8

0.6

2.8

99.2

97.2

Talbot

$m

609.1

608.6

(0.1)

467.1

481.7

107.5

74.0

73.6

82.6

‡97.6

‡88.9

*earned
** net earned premium less claims and underwriting expenses
†operating result
††loss ratio
‡net
¶comprises reinsurance written in London, Bermuda, Paris plus ILS activity and Bermudian healthcare
Source: Insurance Day/company announcements

 

 

Table 5: Recent acquisition moves in the London market
Buyer

Target

Price

Aquiline

Equity Insurance Gp

£87m

Enstar/Stone Point

Atrium

$158m

Lancashire

Cathedral

£266m

AmTrust

Sagicor Europe

$91m

Enstar/Stone Point

Torus

$652m

Sompo Japan

Canopius

£557m

Qatar Ins Co

Antares

$290m

CNA

Hardy

£143m

Hanover

Chaucer

£313m

Hamilton

Sportscover

na

XL

Catlin

£2.79bn

 

 

Table 6: Recent corporate developments in the London market
Argenta 2121 has launched a new UK commercial underwriting capability
Aspen is leading a new Lloyd’s liability consortium providing up to $52.5m of cover any one risk. The consortium targets international commercial D&O, company reimbursement, and primary and excess prospectus business
Argo International (syndicate 1200) has entered the marine liability market, including P&I-type cover
Kiln and Tokio Marine Europe have formally rebranded as Tokio Marine Kiln, now headquartered in the Walkie Talkie at 20 Fenchurch
Gable Holdings expects to increase the size of its Danish property portfolio this year after securing 20% quota-share support from Barbican
Argo International (syndicate 1200) has entered the contingency market following the recruitment of an underwriter
Markel International has launched two emerging risk products: liability cover for the information and communication technology sector and stand-alone cyber insurance protection
Antares intends to write more property and accident & health business following its acquisition by Qatar Insurance
MGA Ascent Underwriting has entered the UK and Irish professional indemnity and directors’ & officers’ markets
One Re, a new non-life reinsurer dedicated to the African market, has received approval from UK regulators. This is said to be the first traditional start-up since the new regulatory regime that came into force in the UK in April 2013. One Re, based in London, starts with $50m capital
Beazley has opened an office in the Dubai International Financial Centre
Lodestar Marine, a fixed premium protection & indemnity provider, has welcomed additional support from RSA, which has increased its line size limit to $500m from $100m
Capita Insurance Services has upped its investment in MGA Pardus to 40%. Pardus now offers forestry insurance
Aegis has pulled out of the aviation war market due to poor rating in response to the heavy loss experience
Allied World syndicate 2232 has secured approval to write direct insurance and facultative reinsurance for Latin America and the Caribbean, with underwriting handled from Miami
The Excess D&O Consortium at Lloyd’s, led by MSIG, has an increased line size this year of $75m, up from $62m
Canopius has launched a renewable energy division of five specialists, based in Amsterdam
Acappella Holdings is in talks to set up a managing general agency for syndicate 2014, currently managed under a turnkey arrangement by Pembroke
Source: Insurance Day/corporate announcements
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