Rough Sailing Ahead For Marine Insurers?

Any marketplace has its "haves" and "have-nots." Both inside and outside of Lloyd's, some key marine market players have consistently outperformed their peers and made satisfactory returns on their investment over a sustained period. However, these carriers were few and far between and did not depict a healthy market overall.

On the whole, the current results of Lloyd's and other marine specialist insurers are healthy but unspectacular. Following huge losses in the late 1990s, markets tightened with a return to more disciplined underwriting. The Lloyd's marine market (comprised mainly of marine hull, cargo, offshore energy, marine liability and marine war insurers) returned to a small profit in 2001 after a number of years of continual losses.

Each of these sectors have experienced a year-on-year improvement in results since, but the losses of the late 1990s were so large that it is likely that over a 10-year period the Lloyd's marine market will at best have broken even. Many of the worst performing syndicates over this time have ceased to trade, and the market depends on those that remain to not repeat the mistakes of the past. The 10-year results are unacceptable by any standards, but disturbingly Lloyd's has fared at least as well (and better than most) as the other international marine markets over the period.

The combined effect of highly uneconomic insurance rates (often fixed for three or more years), low deductibles and an over-reliance on reinsurance resulted in an inevitable withdrawal of capital. Investors, both personal and institutional, eventually were unwilling (and in many instances unable) to support businesses that showed little chance of positive returns. This was true not just for Lloyd's, but the insurance industry as a whole, and affected all specialty classes.

The challenge for marine underwriters now, having gone through four years of improved market conditions, is to maintain acceptable returns to their capital providers.

That there will be an influx of new investment to underwrite marine business is inescapable, and the pressure that this would bring to bear on rating levels is obvious. The lure of attractive underwriting results inevitably attracts new investors to the insurance sector in general, and results will encourage those not currently involved in the marine business to enter the class.

The law of supply and demand remains alive and well, and increased market capacity inescapably leads to lower pricing for the buyer, and eventually under-pricing by insurers.

Through previous underwriting cycles, Lloyd's had done relatively little to monitor the adequacy of individual syndicates' business plans and management controls, and therefore was somewhat distant from being able to police whether syndicates were operating in a fashion that was likely to result in a profit for investors. Of course, each of the syndicates in Lloyd's, and insurance companies underwriting marine business worldwide, had their own internal controls. However, for the most part, the results would suggest the controls were far from robust.

The pressure that was brought to bear on Lloyd's capital base in the late 1990s meant that the market's overall result had been negative for a number of years prior to the attacks of Sept. 11, 2001. That Lloyd's faced these challenges and emerged with a credit rating from the major rating agencies that was intact is a tribute to the leadership that was put into place at the time.

In 2003, Lloyd's appointed a Franchise Board, headed by Rolf Tolle, to oversee the operation of the Lloyd's marketplace. Two of the major objectives of the Franchise Board were to protect and enhance the Lloyd's Central Fund (which protects policyholders should an individual syndicate become insolvent) and to safeguard the Lloyd's brand name that was in danger of being tarnished if the results of the past were repeated. Essentially, this meant maintaining the highest standards of underwriting across the market while not inhibiting Lloyd's reputation for innovation.

The Franchise Board's assignment is market-wide, but much of their time has been spent analyzing the highly volatile marine classes. Market practitioners see this as a highly constructive development in the interests of both policyholders and capital providers alike.

Lloyd's has also devoted considerable resources to modernizing some of its more antiquated business practices. One practice the traditional face-to-face negotiation of most risks continues to be the preferred method of trading, essentially because it is highly effective for specialty business.

However, Lloyd's continues to be criticized, and rightly so, for being behind its many competitors when it comes to policy production and speed of claims payment. To be truly successful through this cycle, Lloyd's must at least match the service levels of the competition.

All of these improvements need to be made without increasing the expense burden on the individual syndicates that comprise Lloyd's. Great steps have been made in improving these aspects of the market's performance, and this is an ongoing, continual process of betterment.

So the question remains: How can Lloyd's remain competitive and profitable in the marine sector if global rating levels again plummet to the levels experienced in both the late 1980s and 1990s?

There is no simple answer.

Lloyd's cannot operate in a vacuum and be removed from the commercial pressures that are encountered by its competitors. To do something different during the next downturn, Lloyd's would need to be a smaller player in the global marine market during the period of the decline.

When trading conditions are uneconomical, the only way for an insurer to retain stability and let's face it, what else are we really selling to our policyholders? is to limit its exposure to unprofitable sectors of the business. This is no different from the commercial challenges our client base faces every day in their own sectors of industry.

Undoubtedly, any downsizing by Lloyd's would produce accusations of a lack of commitment to the marine market, but in truth, it would be just good old-fashioned common sense.

Brendan Flood is a marine underwriter at Hiscox Syndicate 33 at Lloyds of London.

Reproduced from National Underwriter Edition, August 12, 2004. Copyright 2004 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.