Soft Market Puts Lloyd's New Structure To The Ultimate Test, Moody's Reports

Increased central assets and other factors have enhanced the minimum security offered by Lloyd's of London for all syndicates, but a key question is whether the market's new governing structure will succeed in maintaining underwriting discipline in the face of falling prices, Moody's Investors Service reports.

Moody's, in its report--"Lloyd's of London: Better Positioned than in Previous Cycles; an Attractive and Effective Trading Platform"--finds that with the effective resolution of Equitas, the runoff arrangement for pre-1993 asbestos and environmental claims, and the introduction of enhanced controls since the last market downturn, Lloyd's remains an attractive and effective trading platform.

According to the report, Lloyd's global franchise, access to diversified business, the ability to trade using letters of credit and its reduced capital requirements, based on its partial loss mutuality, offset disadvantages such as the potential for additional costs due to mutuality, the need to improve efficiency and applicable U.K. tax rates.

"The market has benefited from the good trading conditions of recent years, benign loss experience and increasing central resources," Robert Smith, a Moody's vice-president/senior analyst and author of the report, said in a statement.

"Aggregate market returns on average equity for 2007 and 2006 have been 29 percent and 31 percent, respectively, with the five-year return on average equity to 2007 of 19 percent," Moody's noted.

Mr. Smith told National Underwriter that a key focus at the moment, with the prices in the property-casualty market declining sharply, is underwriting discipline.

Lloyd's, Moody's said, is still awaiting the ultimate test of its newly emplaced operating procedures and revised membership profile in an insurance downturn, with management of the underwriting cycle crucial over the next few years.

"Essentially, we're looking at the [Franchise Performance Directorate] having the first chance to confirm their effectiveness in enforcing underwriting discipline in a downturn," said Mr. Smith.

He explained that the FPD was set up in 2003 to "ensure that Lloyd's didn't go through a period as they had done in the previous down cycle in recording significant losses," which happened between 1998 and 2001.

"That's what the Franchise Performance Directorate was set up to counteract [soft market temptations], and the market's been in an upturn since, following a period that had culminated in Lloyd's recording a loss of ?3.1 billion [$6.002 billion, under current exchange rates], including World Trade Center losses, on an annually accounted basis in 2001," he said.

Moody's said Lloyd's is better positioned than in previous cycles prior to an insurance downturn due to increased central resources and the significantly improved controls introduced in recent years.