Newsletter Sign-up

By GRAHAM BUCK, who covers European risk management issues

These are confusing times in London. The British economy is still struggling to emerge from recession, and an austerity budget is in prospect once the May election is over. However, in the financial district, the commercial property market has swiftly revived, with work under way on several briefly shelved new building projects.

On a January weekday lunchtime, the sound of jackhammers and drills permeates through the glass of the 12th floor of the Lloyd's Building where Luke Savage, the market's director of finance, risk management and operations, has his office.

He has now held the position for nearly six years, joining Lloyd's in 2004 and overseeing its debut in the international debt markets a year before hurricanes Katrina, Rita and Wilma wreaked havoc.

Savage has been praised by his CEO, Richard Ward, for his contribution in establishing Lloyd's as a "safe haven," a stark contrast to the vulnerable institution whose future looked precarious in the early 1990s.

As he confirms: "We're now in a position of strength, and after one other name, the Lloyd's brand is the most recognized in the world. We're now at the point where we're regarded as the pre-eminent insurer, so the challenge for the decade ahead is building on this strength.

"Lloyd's offers capital advantages, a strong brand and a global network. The task for us is in deciding how we fine-tune these benefits and where in the world we can add to our license network."

Lloyd's enjoyed two record years in 2006 and 2007, with pretax earnings of $5.58 billion (£3.66 billion) and $5.87 billion, respectively.

Hurricanes in 2008 cut that figure down to $2.89 billion, when one-off foreign exchange gains prevented an even greater fall, but the first half of 2009 saw a robust recovery to $2.01 billion.

Last year opened with Lloyd's offering total underwriting capacity of $25.34 billion, then an all-time record. In 2010, the figure is not being announced, although a Guy Carpenter report suggests the increase could be as much as 27 percent. The sharp jump partly reflected the weakness of the pound sterling

Robert Smith, the London-based director of insurance at Moody's Analytics, estimates a figure of $34.81 billion this year, the bulk of the increase reflecting changes in foreign exchange rates and four new syndicates joining the market and contributing a relatively modest $ 251.90 million.

Our interview with Savage takes place a few weeks before publication of Lloyd's latest strategic review in February. This document promises to be more extensive than previous reviews, with consultants brought in from Deloitte, although Savage stressed "You can expect its contents to reflect evolution rather than revolution"--and indeed it offered no real surprises when it was published Feb. 8.

He is also at pains to emphasize that, while Lloyd's has been developing its global empire in recent years, North America--which contributes around 40 percent of its total business--will long remain its most important market.

However, its executive team recognizes the promise of emerging economies such as the "BRIC quartet" of Brazil, Russia, India and China. Despite initial obstacles in China--where the concept of a 'corporation' is unfamiliar--Lloyd's reinsurance operation in Shanghai is now three years old. It has 16 managing agents in Singapore. And it was the first insurer to break into Brazil's market when it opened up to competition in 2008.

"We have also attempted to navigate a path into the Indian market--but there are many legal and regulatory frameworks to overcome," said Savage.

"A bigger and more diversified book of business is good for managing risk. Lloyd's now transacts business in around 200 countries and territories around the world," he added.

However, plans to establish a presence in the Middle East are on ice for the moment. Savage said that various locations were reviewed in response to demand for a Lloyd's office in the region, but it became increasingly clear during 2008 that the timing was not right.

"In view of the recent events in Dubai, it appears that this may well have been a prudent decision--although it's one that we can and will revisit at any time," he added.

DEJA VU

The announcement at the start of the year by New York governor David Paterson that the Big Apple could set up a rival exchange to Lloyd's attracted publicity in the British press.

Tom Bolt, who recently succeeded Rolf Tolle as Lloyd's performance management director, poured cold water on the plan in a Financial Times interview. Savage shares his colleague's skepticism, recalling that a similar initiative back in the 1980s was tried, but abandoned.

"What makes an exchange successful? It comes down to the benefits that it can provide to members. Lloyd's offers access to a global network, a widely recognized brand, a strong credit rating and the financial backing of the Central Fund. None of these are things that can be quickly replicated, so people shouldn't underestimate the significant obstacles to setting up a new market.

"There has been talk of creating an insurance hub in the Middle East, while China has grand ambitions to make Shanghai the pre-eminent global financial center. But it's often not evident that the individuals with these big ideas actually have a clear concept of what it is they want to create--is it a copy of the Lloyd's underwriting room, a globally recognized brand, or something different?" he said.

There are bigger immediate threats, among them rival locations to London offering lower--even zero--corporation tax versus the U.K. rate of 28 percent. Several Lloyd's businesses have redomiciled in recent years, moving their head office to Bermuda, or less far away to Dublin.

Savage stressed that the moves have not involved cutting back on the volume of business they write through Lloyd's

"If I was the CEO of one of these businesses, I would undoubtedly do the same thing; it makes sense to continue to exploit the benefits of Lloyd's while simultaneously being able to enjoy a lower tax rate," he admitted.

"Lloyd's has never regarded Bermuda as a threat, although it undoubtedly poses one to the U.K. Treasury's tax take. But I don't want to get into speculation as to what the Treasury or the new government might do in an endeavor to balance the books," he said.

Another concern is the impending Solvency II (SII) capital adequacy regime that will be applied to all insurers and reinsurers operating throughout the European Union. Savage described it as "mapping out a new terrain" and has concerns as to its effect on Europe's competitive position globally. "It could tip the balance either for or against us--the jury is still out," he said.

The fear is that, as a reaction to the era of "light-touch regulation" that existed prior to the financial crisis, the pendulum will swing in the other direction and put European operators at a disadvantage against the rest of the world. The avowed aim of SII, to better protect policyholders, will also be thwarted if the cost of insurance substantially rises; hence, the lobbying campaign to have politicians amend the more draconian proposals.

Savage believes that the British government has, albeit belatedly, begun to appreciate that the insurance industry has remained in relative good health in contrast to the casualties of the banking industry that have required major financial infusions from the taxpayer.

He questioned, though, whether the importance of SII on Europe's agenda is fully appreciated in North America. While the new regime is not due to be introduced until 2012, the players involved need to demonstrate this year that they are prepared and ready.

That includes U.S. insurers and reinsurers transacting business in Europe, which could be hampered by the fact that regulation of the U.S. insurance market is largely on a state-by-state basis. This means that there is no pan-U.S. body that European regulators can look to that can provide equivalence.

"The countdown to the new regime in consuming much time and effort in the European arena ? and will impact on the U.S. radar once they start to appreciate the implications for American insurers wanting to do business in Europe," warned Savage.

A CIVILIZED ENVIRONMENT

The financial crisis has at least eased the problems of the London Market in recruiting top talent--which until recently was being lured by the fatter remuneration packages offered by the banks. Savage believes that the insurance market offers a far more civilized working environment

"Having worked for the banking sector for many years, I've been on both sides of the fence, and the banking world is significantly more pressured and ruthless," he observed.

"So graduates and other new entrants have a choice of what sort of life they want to live and what sort of culture they want to operate in," he said.

Lloyd's has acted to reap the benefits as banking careers rapidly lose their shine, reintroducing the graduate recruitment scheme that it scrapped nearly 20 years ago and working on initiatives such as a leadership program with the London Business School.

But will the drive of recent years to eradicate Lloyd's volumes of paperwork and become fully electronic mean that working in the market become more soulless?

"'Fully electronic' means different things to different people," replied Savage. "The infrastructure is in place to replace much of the paperwork with a document repository, which everyone can see and which speeds up the progress of paying claims and receiving premiums. We're working on the Lloyd's Exchange for the structured exchange of data.

"However, we regard electronic transactions as an enabler--they can't fully replace the benefits of face-to-face dealings. At the complex structured end of the market, there will always be a need for individual negotiations," he said.

April 1, 2010

Copyright 2010© LRP Publications