Crafting a specialty from financial services risks

They continued to specialize in law firm E&O, and were very successful at it, retaining some of the same clients for 15 years with different iterations.

I had never worked for either firm. I spent 10 years at Marsh, five of those in New York and five in Chicago. My focus at Marsh was D&O, so I've been in the market since 1995.

Marsh was going through its issues at the time and I was feeling I wanted to do something more entrepreneurial on the smaller end of the insurance universe. So in May 2005, I joined up with my brother's firm. We started a new division for executive liability to go after more D&O products, along with their law firm E&O.

Since then, we've seen enormous success by going after financial firms for their E&O and D&O needs, as well as private equity and investment management. My primary focus is private equity, and we love to write portfolio companies as well.

This business segment is very specialized. We like to tell people that we know both their industry and the markets that operate within the financial D&O space very well. We're realistic in knowing that we're not going to get some of the big publicly traded firms; we're focused on the private companies. Although we write business nationally, 80 percent of our clients are within a couple of hundred miles of Chicago.

We've tried to immerse ourselves in organizations like the Illinois Venture Capital Association, getting to know members and making our name known within the private equity world. While this niche has flourished in the past several years, it's obviously going through a hiccup right now.

In 2007, we wrote a little over $5 million in premium, and I suspect that will be up to almost $8 million by the end of this year. Our law firm business makes up about 65 percent of our business, with about $25 million in coverage.

We also have a third business that provides our clients with employee benefits. We've been involved in this for about two years. Although we do write a little property-casualty business, it's on a very basic level--just office package policies. At some point, we'll be getting into property-casualty in a bigger way.

Today's D&O environment is sort of a two-tier market characterized by continuing softening for most industries and a difficult market for any business with exposure to the real estate and subprime areas. For these businesses, underwriters are using classic hard-market tactics: asking a lot more questions at renewal, requiring higher deductibles, taking down limits and charging higher premium. On the other hand, for our customers in the private equity space it's still a pretty soft market, so underwriting requirements are specific to companies depending on their exposures and specialization. Not all financial firms are placed into categories with subprime exposure--underwriting is very lasered in on the firms that have a potential financial downside to their portfolios.

We've got a handful of these types of firms--closed-end funds investments that trade at discount, sometimes in the real estate world, where share price has gone down.

Regarding the types of insurance policies available for D&O coverage, we see a little of "monkey see, monkey do" among the insurers. Somebody comes out with an enhancement, and the other carriers offer the same thing to stay competitive. We've seen a continual broadening of the coverage for anybody outside of the subprime real estate exposures areas.

A good example on the private equity side is coverage for individuals who sit on outside boards of directors. Historically, insurers only covered these individuals after insurance and indemnification at the portfolio company level, plus indemnification the individual would get from his own firm. Now, most carriers have eliminated the need for that third layer of indemnification and will just write the coverage.

Another example is the watering down of breach of contract exclusions. We see quite a few claims in this area on private company D&O. Typically, when carriers know a policyholder has a dispute with a vendor they don't want to get involved, but now carriers have a duty to defend those allegations. And while they're still not picking up coverage for the entity itself, they'll extend coverage to individuals.

Carrier appetite for D&O business is high. There seems to be a new carrier on the scene every six months or so, which increases the competitive landscape of the market.

Because there are so many different facets of the D&O market, there is a variety of insurers vying for the business. Chubb, AIG, Hartford, Travelers, XL and several smaller players are all competing for private company D&O. Public D&O--which is an entirely different animal--is dominated by AIG and Chubb. In this coverage, we see multiple layers of insurance, which are essentially commodities where we're seeing enormous pressure on carriers to reduce price.

Claims
When it comes to D&O claims for private businesses, I have seen three breach of contract exclusions in the last three or four months. We're seeing an uptick of claims from creditors, and are waiting to see if claims start to materialize from limited partners alleging poor fund performance. Certainly a lot of firms have significant exposure to bond insurers, home builders and anything in the area of real estate; so we'll see if that exposure materially impacts fund performance.

In the hedge fund business, we're seeing lots of claims involving fund managers who unilaterally freeze redemptions. This is a blatant conflict of interest, because fund managers are still collecting fees on those assets--although you can make the case that they're theoretically looking out for the best interests of their shareholders because they can be forced to sell these assets with no market value.

Risk management
When it comes to risk management, we don't really see much of this from a true D&O perspective. In theory, the Sarbanes-Oxley Act was supposed to be a risk management tool, but the jury is still out on how effective it's been in making boards more adherent to the laws and more accountable to shareholders. Some would argue that it did--but when you see the crisis that's unfolding now in the financial world, you'd probably beg to differ. There has been a spike in D&O claims in the publicly traded arena, especially in the fourth quarter of last year.

And with the ongoing fallout in the financial services industry, it's probably a safe bet that this trend will continue. When a company like Bear Stearns unwinds, it's evident that even the most respected institutions are vulnerable to market panic and paranoia. Obviously, the Fed's actions in holding down interest rates are helping to alleviate concern in the market, but the current financial crisis still has a long way to go before underwriters can take a deep breath and say the worst is over.