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The future is unknowable, but some things are certain. For instance: the extraordinary growth of the Bermuda insurance market in the past 15 years is over. The market is mature and the Bermuda market faces dangers from within and without. What happens next remains to be seen.

The story so far: Bermuda has built, in the relative blink of an eye, the most dynamic insurance and reinsurance market in the world, with leading specialties in reinsurance and captive insurance. Every year since 1993, the jurisdiction has been the domicile of choice and the source of more insurance action than the rest of the world combined. Extraordinary pools of intellectual and financial capital have accumulated in short order on this 22 square-mile, mid-Atlantic island chain.

"Material challenges" face the Bermuda market, according to S&P: the perceived regulatory shortfalls relative to well-established regulators, the reputational risk resulting from a weaker regulatory focus on market conduct, the sustainability of the tax advantage, and constraints of conducting business in a relatively isolated island location.

These factors all have the potential to disrupt Bermuda's market competitiveness, says S&P. In the most extreme case, they could endanger the island's "formidable market presence."

Raising the ante, a powerful rumor has percolated though the Bermuda market since February: One of the large reinsurers was preparing to move to another jurisdiction. The word was that the company would leave its insurance operations in Bermuda--a market that is invited to quote on some risks that other markets are not--but transfer its corporate operations to a friendlier environment.

The rumor played into a standard fear in Bermuda, that a provocative action by one company would quickly be followed by a similar response from its competitors. So far, Bermuda has not lost a major reinsurer for structural reasons--not yet.

The Bermuda economy relies entirely on its insurance sector, and any significant reduction in government revenues from the risk transfer crowd would hobble government spending, now running in excess of $1.1 billion annually. If this newly reinvigorated rumor were to pan out and a host of copycat companies were to leave the island, Bermuda would urgently require a Plan B. Hence, the government is trying hard to revive the tourism sector.

OPTIMISTS AND PESSIMISTS

For this article, Risk & Insurance canvassed CEOs of the largest insurance and reinsurance companies and brokers in Bermuda on the market's future. Several offered a generally positive opinion of a developed market that would ride out the bumps in its path and the challenges presented by a stressed infrastructure.

Typical of this group, the optimists, was Marty Becker, president and CEO of Max Capital Group. He pointed to the diversified nature of the companies as reasons not to be particularly worried about the future of the Bermuda market, at least in the short term.

"In the near term, I see the Bermuda market continuing to do quite well," he says. "The companies here are becoming more diversified and their sources of distribution are not limited to Bermuda. So I think the companies here ought to do quite well, given the (soft market) climate they're in."

Of much the same opinion was Bermudian Rees Fletcher, president and CEO of ACE Bermuda Insurance. "I think there's always room for more insurance and reinsurance vehicles," he says. "To the extent that they have a presence in Bermuda and lots of staff, I'd say we're reaching a point where we need to make some hard decisions about access to Bermuda from a sustainable development perspective. But there are many new vehicles that can be created that would provide Bermuda with the economic growth, but not necessarily the physical growth."

"Thanks to technology and greater efficiency, the Bermuda market can handle additional growth in exposures, even with the same employment levels," says Bob Deutsch, CEO of insurer Ironshore Inc. "Because of the current rate environment, you can see more growth in policy count in Bermuda, even if top line gross premiums stay flat or decrease."

Kenneth J. LeStrange, chairman and CEO of Endurance Specialty Holdings Ltd., went even farther, saying Bermuda has assured itself a "permanent" leading role in the world's insurance and reinsurance marketplace.

"Bermuda is not just a marketplace," he says. "It represents a distinct psychology on how to manage risk, allocate capital and generate optimal returns for shareholders. As that psychology becomes ever more important--and it will--the Bermuda companies are well positioned to lead the continued evolution of the science and practice of insurance and reinsurance. Bermuda has established itself as a permanent financial community among the global capitals of insurance and reinsurance worldwide."

The views of Becker, Fletcher, Deutsch and LeStrange are not shared by all, of course. Three other CEOs, all of whom run companies with capital in excess of a billion dollars, were far more reserved in their assessment of the long-term prospects of the Bermuda market, particularly with the government of Premier Ewart Brown at the helm.

"The Bermuda government's attitude towards the Bermuda market could, at the extreme, cause companies to exit because what they are asking of us is statistically impossible to achieve," says one CEO speaking on condition of anonymity.

The government's Workplace Equity program, a policy by which companies of a certain size are to be fined if their employment profiles show underemployment of black males, makes it difficult to do business, this executive says.

Another CEO spoke of Bermuda "having to decide whether or not it wants to maintain its insurance and reinsurance market, and whether it is willing to create a culture in which the Bermuda government shows us the respect and accommodation we need to stay here."

To the chagrin of the present government and some of its supporters, Bermuda has always had to rely on the kindness of strangers.

PRESSURE FROM WITHIN

Since 1981, the Island's tourism sector has been in a swoon, its economic contribution having declined just about every year. About 10 years ago, government receipts from the financial services sector overtook those of tourism. Insurance and reinsurance provide the lion's share, probably 80 percent, of the Bermuda government's revenue from financial services.

Bermuda is about 60 percent black, and in 1998, for the first time, elected a black government which has been re-elected twice since. The policies of its first two leaders were not markedly different from those of its white-led predecessors. In October 2006, however, the party elected more of a social engineer, Ewart Brown. He promised, and has started to deliver change, insisting on the inclusion of Bermudians in the nation's economic machine.

His thrust is that "the time has come for Bermudians to become part and parcel of any and every industry that thrives in Bermuda."

The Bermuda insurance industry already employs a considerable number of Bermudians, but relatively few at the highest levels. To speed the process along, Brown has endorsed a law put in place by one of his predecessors--time limits on work permits--and introduced the Workplace Equity program.

He has also spoken of requiring foreign work permit holders to name their Bermudian successors before their work permits will be granted, and even of denying automobile ownership to foreign workers. The work permit time limits require all foreign employees to leave Bermuda after six, or at most nine, years. Senior insurance industry personnel are exempt, by policy, but that can change.

The Bermuda government, which raised taxes on international companies in its February budget without offering them any kind of quid pro quo, is perceived as unappreciative of the insurance industry. Broadly speaking, it is not, but perceptions, and politicians' habit of speaking to one constituency without considering the effect on another, trump reality.

"This government's history of introducing new policies, such as the Workplace Equity program, without notice and without consultation, make me certain that sooner or later, I am going to have to ask my board if they want to run the company in Bermuda with someone else in charge, or in Luxembourg with me in charge," says another CEO.

"If we were to leave, we would not be alone," he added, echoing the S&P report. "Other jurisdictions offer the same tax breaks, but a much more welcoming operating environment. I fear Bermuda is approaching a tipping point in regard to retaining its insurance industry."

Rents are stratospheric; school places are limited; traffic is becoming an irritant; and some among the core of the Government's support believe that the island would be better off getting rid of foreign capital. By one estimate, the insurance sector employs 1,700 people in Bermuda and 17,000 worldwide. The likelihood is that the disparity can only grow. To continue to develop, the Bermuda market will have to adopt solutions that are "brilliantly successful."

Perhaps it's best just to listen to Robert Glanville, managing director of Pine Brook Road Partners, who has a reputation for putting money where his mouth is given his involvement in the formation of Bermuda property/casualty companies, Arch Capital, Catlin Group, Lancashire Holdings, Montpelier Re Holdings and RenaissanceRe.

"Capital tends to vote with its feet, and go where it is loved," he says, speaking at the Bermuda Insurance 2007 conference last November. "Our new portfolio has three companies, only one of which is domiciled in Bermuda. The other two are offshore-domiciled elsewhere. If we had started these companies five years earlier, all three would have been in Bermuda. Other jurisdictions are now competitive. They have learned the Bermuda advantage."

Any successful enterprise incurs jealousy from competitors. Bermuda's competition is jockeying for position and it should come as no surprise that Guernsey, for example, is touting itself as a reasonable alternative to Bermuda for reinsurance, or that the Isle of Man offers itself as the captive domicile of the future. They wish.

The greatest single external threat to Bermuda's well-being is Uncle Sam. One widely-held belief permeating the Bermuda market stipulates that it would take just seven words tagged onto an otherwise unrelated bill in Congress to effectively shutter the Bermuda reinsurance market.

However, like entertainer George Carlin, who in the 1970s fell foul of the Federal Communications Commission for using seven rather more offensive words, no one in Bermuda was able to cite the seven words.

Bermuda will remain important, says S&P credit analyst Steven Ader, "but insurers are also beating paths to Dublin, Dubai, Zurich, and Luxembourg in a bid to be closer to their customers." Lloyd's is also adding new syndicates, S&P points out.

Dubai, Qatar and Bahrain have declared themselves open for business in the captive arena. Dubai has even been encouraging reinsurance companies to establish offices in the Sultanate, and mildly chastising them for not having done so.

Just about all of the large Bermuda companies maintain a presence in Dublin, to take advantage of the European "passporting" freedom that a European Union presence brings. The companies almost all have Lloyd's operations, although Britain has recently made itself something of a "no-go" area for foreign nationals by taxing nondomiciled workers, a move seen likely to inflict great damage on London's financial markets.

Luxembourg, although under metaphorical attack from Germany over the frequency with which German taxpayers hide income in the Grand Duchy, would make an ideal headquarters location for large insurance and reinsurance companies.

No one expects the outside world to inflict a fatal blow to Bermuda in the global competition to attract capital. The Bermuda market more than proved itself in the wake of the brutal 2004 and 2005 hurricane seasons.

"If a big event happens, we have more than enough capital in the Bermuda market to absorb it," says James Bryce, president and CEO of IPC Holdings. "It's a question of the magnitude of the event, but even in the case of a Katrina, which was a multiple of the previous biggest insured loss, the resilience of the Bermuda market would be enough to absorb it without additional capacity."

Could it be, then, that the greatest danger to the Bermuda market may well come from self-inflicted wounds?

ROGER CROMBIE is a Bermuda-based columnist for Risk & Insurance®.

April 1, 2008

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