Lloyd s and the Subscription Market

Transcription

1 STAGE 1 - INTRODUCTION Lloyd s and the Subscription Market Hello and welcome to this i-tutorial on Lloyd s and the subscription market. We ll look at the structure and makeup of Lloyd s and how its market - the subscription market - works. By the end of this i-tutorial, you should be able to: Explain the nature of Lloyd s and the role of the different players Identify how the subscription market works Explain the position and role of the lead underwriter Understand the role of the excess in Lloyd s policies STAGE 2 - THE LLOYD S MARKET Lloyd's describes itself as the world's leading specialist insurance market. Their historic claim is that there s no type of risk that they can t insure. So, for example, if you re NASA and you want to insure your space shuttle before a mission, you go to Lloyd s. It s not that other types of insurers can t insure unique and unusual business. But the strict risk management guidelines and controls in an ordinary company will make it difficult to write those types of risks. They could in theory, but it would probably be too difficult to quantify the risk. Because Lloyd s is a fluid and flexible marketplace, an underwriter can always be found there for whatever risk you have to insure. From a space shuttle to an earthquake, from an office block to a rock-concert tour. But if Lloyd's is the world's most famous insurance brand, it s probably the least understood. This is, in part, because it s not an insurance company but a society of members. These members used to be just wealthy individuals, but now include domestic and international insurance companies, investment institutions and specialist investors as well. The members group together into syndicates on whose behalf professional underwriters accept risks. The supporting capital for the business is provided by the members of the syndicate. Most of the world s big insurance companies now have a presence at Lloyd s. Business is brought to the market by Lloyd's brokers. These risks may have been passed to the brokers by clients, or other brokers, or by other intermediaries from all over the world. Together, the syndicates underwriting at Lloyd's form one of the world's largest commercial insurers and a leading reinsurer. The market structure of Lloyd s - which we ll look at in more detail later - encourages innovation, speed and better value, making it attractive to both policyholders and participants. This is partly because Lloyd s underwriters all have a physical presence on the floor of the Lloyd s building, giving brokers immediate access to the decision-makers. This means that answers on whether a risk can be placed are made quickly and thus offer better value because admin costs are reduced. LPC_Elect_0910_ of 7 The College of Law

2 STAGE 3 - THE KEY PLAYERS AT LLOYD S The Members of Lloyd's - or 'capital providers' - accept insurance business through syndicates. They do so, however, on an individual basis for their own profit and loss. In other words, members of Lloyd's are not jointly responsible for each other's losses. Individual members are known as 'Names' and tend to support a number of syndicates. Some corporate members only underwrite through a single syndicate however. Corporate capital was introduced in 1994 and now makes up 93 per cent of the market capacity. There are now more than a thousand corporate members, and in 2007 they provided more than 15 billion pounds of capital to the Lloyd's market. By way of comparison, the elevenhundred or so individual members contributed just over a billion pounds of capital. So the Lloyd s market had the capacity to accept insurance premiums of more than 16 billion pounds for the 2007 year of account. A syndicate is run by the managing agent. It s the responsibility of the managing agent to employ the underwriting staff and manage the syndicate on members' behalf. The managing agent must be a company specifically established for the purpose of managing a syndicate, and may not carry out any other function. They may, however, be responsible for more than one syndicate. Each syndicate operates mostly within a specialised insurance area. Examples of these are: Marine, Aviation, Catastrophe for events such as earthquakes or tropical storms - Professional Indemnity, and Motor insurance cover. The syndicates compete for business within Lloyd s, creating an internal marketplace, vying to cover either all or a portion of the risk. PAUSE AND STOP The only people allowed to place risks in the Lloyd's market on behalf of clients are accredited Lloyd's brokers. They use their specialist knowledge to negotiate competitive terms and conditions. There are 176 firms of brokers working at Lloyd's, many of whom specialise in particular risk categories. Lloyd's operates a rigorous accreditation process for brokers seeking access to the market. They must satisfy all relevant regulatory requirements laid down by Lloyd's, who then perform a careful assessment of all applicants. They affirm their reputation and financial standing and investigate the character and suitability of officers and employees. Firms receive provisional accreditation for three years before becoming entitled to use the term "Lloyd's broker". Any insurance broker can access the expertise and resources of Lloyd's by making contact with an accredited Lloyd's broker. Under the terms of the Lloyd's Act 1982, Lloyd's brokers are prevented from being managing agents or in any way affiliated with them. Lloyd's also has risk management procedures governing the relationship between managing agents and any related companies that act as intermediaries. This is to ensure that the managing agent makes proper disclosures of any such arrangements. A policyholder may for example ask the intermediary they re dealing with to disclose if it s a company associated in any way with a Lloyd's managing agent. Lloyd's is regulated by the Financial Services Authority, under the Financial Services and Markets Act The FSA also regulates Lloyd's brokers and managing agents. Lloyd's is licensed to do business in many LPC_Elect_0910_ of 7 The College of Law

3 countries around the world but this involves additional compliance. For example all US business underwritten at Lloyd's must be placed in accordance with US regulatory requirements, for example, and coverage must comply with local law. This means that new insurance enquiries from the US have to be made to an insurance agent or broker licensed to conduct business in the relevant state. STAGE 4 - LLOYDS MARKET Activity 1 Have a go at this activity now to test your understanding of the Lloyd s market and the key players within it. You are required to read the different scenarios and select the most appropriate Lloyds player for each one. Follow the on screen instructions and click Done when you have made your selections. PAUSE AND STOP Now, let s have a look at how you got on. Question one asked who you would contact if you wished to insure a boy band s re-union tour. The answer is, Lloyd s Broker. Only accredited Lloyd s brokers can take business to the Lloyd s market. Question two asked what you are trying to become where you ve received a large sum of money and wish to become involved in the Lloyds market. The answer is a, Name. Individual members of Lloyd s are known as Lloyd s Names. The answer to question three, where you have a risk to write and want to talk to underwriters, is, Managing Agent. A managing agent runs a Lloyd s Syndicate and, unless you know an underwriter personally, you would start by approaching the Managing Agent. The answer to question four where you have become a name and have started to write insurance business, is, Syndicate. Names at Lloyd s group together into syndicates to write business. Insurance companies may be members of syndicates, but they do not themselves write business at Lloyd s in their capacity as insurers. Question five asked who you would contact if you wanted to learn the ropes in a Lloyds syndicate. The answer is, a Managing Agent. Managing agents employ all staff working for a Lloyd s syndicate. STAGE 5 - HISTORY OF THE LLOYD S MARKET Let s look now at how the Lloyd s market developed - this ll help us to understand how it works today. Edward Lloyd opened his coffee house on Leadenhall Street in 1688 and, as it was near to the River Thames, sea captains and shipping agents began to congregate there. To encourage their custom, Lloyd paid runners to bring shipping news from the docks, and soon the coffee house became an information hub and a place of business for London s maritime community. Marine insurance brokers, who had previously moved from office to office, found it easier to go there to transact business, making Lloyd s coffee house the effective centre of the London insurance market. Brokers would go from table to table asking whether anyone wished to insure a particular ship. LPC_Elect_0910_ of 7 The College of Law

4 All the information about the vessel or cargo was written on a slip of paper. If the insurer wanted to take some of the business, they would write the percentage of the risk they were prepared to accept under a line on the paper, and sign it. The insurers became known as underwriters, the piece of paper, the slip, and the percentage of insurance written the line. To this day Lloyd s underwriters are still said to sign - or scratch - the slip to indicate whether they wish to take a line of the risk. Over the past years a computerized system has begun to be introduced, but for the time being paper slips still have to be physically stamped by an underwriter to bind the risk. Because each underwriter subscribes to take a line of the risk, it is known as the Subscription market. It s also referred to as the Lloyd s market, or the London market. STAGE 6 - HOW THE SUBSCRIPTION MARKET WORKS Before a risk can be placed in the market a number of interactions must take place. First, the customer - which might be an individual, a company or indeed another Lloyd's syndicate will approach a Lloyd's accredited broker with the details of a risk to be insured. The Lloyd's broker then approaches a specialist underwriter in the relevant class of business. They will discuss the risk and what premium, terms and conditions might be acceptable. If the underwriter is interested, they ll make a proposal to accept a percentage of the total risk. This underwriter is known as the lead underwriter. The broker feeds back information to the customer to enable them to place an order, and prepares the slip. This is known as the Placing Slip.It contains a summary of the terms of the proposed insurance contract. The placing slip is then presented by the broker to selected other underwriters to write a percentage line of the policy. These are known as the following underwriters. They may delete, amend or add terms on the slip as they consider appropriate for the purpose of providing an indication or a quotation. Any amendments however will have to be agreed by all the other underwriters, and especially the leader. The placing slip will be the first piece of evidence of the terms of the policy. The broker will continue approaching underwriters until the total number of lines accepted reaches 100per cent and the whole risk is covered. Sometimes more than 100 per cent of the risk is written and the broker will either have to go back to the market and reallocate the lines, or, in some cases, may be able to proportionately write down all the percentages to 100%. On other occasions, the broker comes up short and less than 100 per cent of the risk is written. In that case they have the option to go outside Lloyd s. and try to find an insurer who ll take the remaining line. Once the quotations have been accepted, the broker will prepare the Signing Slip. This is a document created for the purpose of processing premiums under the contract. It s a cleaned-up version of the final placing slip and shows each underwriter s stamp, their signed lines, and underwriting references. These details are inserted by each underwriter at the request of the broker. If the original placing slip shows the underwriters stamps, signed lines and underwriting references, it may be used as a signing slip. The premium is paid by the insured to the broker who deducts any agreed brokerage fee - commonly about 10%. The broker submits the balance to Lloyd's Central Accounting, who LPC_Elect_0910_ of 7 The College of Law

5 then allocate the premium between the managing agents of the various syndicates who have subscribed to the policy. Each underwriter will take a share of the premium and have to pay out the equivalent share of any losses under the policy. This diagram is also in the resources section of this i-tutorial and you can pick it up from there if you need it later. STAGE 7 - THE ROLE OF THE LEAD UNDERWRITER The lead underwriter has an important role, both technically and psychologically, in the writing of a Lloyd s policy. For a start, they re the figurehead insurer for that piece of business. Their standing and reputation will help sell the policy to other insurers. If Gerling at Lloyds, for example, has signed up as the lead underwriter on a policy, their reputation as a major international insurer will encourage other underwriters, both large insurers and smaller syndicates, to take a percentage of the risk. This is because Gerling s well-respected underwriting team, backed by its risk-management procedures, will be considered sound judges of whether a risk is potentially profitable or not. It may often be a case of, what s good enough for them is good enough for us. The lead underwriter will also generally negotiate the terms of the policy with the broker. This may involve adopting the Lloyd s standard form contract, or perhaps drafting brand new policy wording. A following underwriter can request amendments to the policy, but only if all the subscribers agree. Generally, Lloyd s underwriters have used the standard Lloyd s form wordings for their policies. However, in many instances these are now considered to be too simplistic, and, increasingly, more sophisticated tailored policies are being adopted. Perhaps the most significant role of the lead underwriter however, is that they control the claims handling process under the policy. This is extremely important as it gives the leader ultimate control over the policy, including the management of the risk through settlement negotiation or reinsurance. If an event giving rise to a claim occurs under the policy, the insured will usually inform the broker who ll notify the lead underwriter under the policy. The leader then has the usual claims handling options at its disposal. It may decide to pay the claim straight away. It could investigate the claim further, perhaps though loss adjusters or actuaries. Or it may decide to instruct external solicitors with a view to challenging the claim and possibly even commencing legal action. All these levers of control give the lead underwriter significant power under the policy. This may be a source of comfort to following underwriters if they re content to leave matters in the leader s hands, or a cause for concern if their interests and preferences come to differ from the leader s. That s why the identity and reputation of the lead underwriter is so important when the broker is offering the risk. Not only does it say things about the quality of the risk, but also the claims handling that may follow. The lead underwriter can, if they so choose, hand the operation of the claims handling process to an external organization. At Lloyd s, a company called Xchanging offers this service to syndicates. They ll effectively operate as an external claims handling department for the syndicate. Where a broker has been forced to go outside of Lloyd s to make up the full 100 per cent cover, the outside insurer may demand to be the joint leader. In these circumstances, the two leads will have to agree control of the underwriting process. Disputes can easily arise about the exact wording of a particular policy after a claim has been made. LPC_Elect_0910_ of 7 The College of Law

6 Where you have a lead underwriter and several followers, all of whom may wish the policy to have said something different, you can see how disagreements are bound to arise. In the past brokers, were so keen to write business that they would often leave the precise policy wording to be agreed at a later date, with all the hostages to fortune that this could create. It s less common today, although this inadvisable practice does still go on. In a cynical world, one might say that this is not so bad for insurance lawyers, as it leads to disputes. But you will not find such cynicism in this i-tutorial. STAGE 8 - SUBSCRIPTION MARKET Activity 2 The very existence of the subscription market at Lloyd s may actually be under threat. A European Union report into anti-competitive practices across the insurance sector highlighted some problems with the lead underwriter following underwriters structure of the London market. Click the link on your screen now and read an article from Insurance day magazine discussing this issue. The article deals with some quite complex points, but you re not expected to be familiar with all of these. An understanding of the overall issues will suffice here. After you ve read it, you ll have a chance to answer some questions on the article and on the subscription market in general. Make sure you follow the on screen instructions. PAUSE AND STOP Ok, now let s have a look at how you got on. The answer to question one is C. The first insurer who signs up to a policy is the lead underwriter. The answer to question two is B. The risk is being placed in the market, hence Placing Slip. The Signing Slip is the finalised version of the Placing Slip, which will be used to process premiums and evidence the final agreed terms of the policy. And in question three A is the correct answer. The following underwriters do get to dictate the terms of the policy with the agreement of all subscribers - although that may change in the future because of EC competition law Question four has option B as correct. The broker collects the premium from the insured. They then deduct their brokerage fee and pass it onto Lloyd s Central Accounting, which then distributes it among the participating syndicates. The answer to question five is C. The European Commission think the Best terms and conditions clauses, where following insurers accede to the terms and conditions of the lead underwriter, are potentially illegal. And the answer to question six is A. If the European Commission does decide that the Best Terms and Conditions clauses are illegal -- following underwriters may in the future be allowed to offer and negotiate alternative terms from their fellow subscribers, without requiring their prior agreement. LPC_Elect_0910_ of 7 The College of Law

7 STAGE 9 - THE ROLE OF EXCESS The excess is the amount of the loss arising under an insurance contract that the policyholder will bear itself. So, if the loss is less than the amount of the excess, then the insured must bear the whole of it. Some policyholders take out separate additional insurance to cover the excess. The excess may be compulsory or voluntary. An insured which accepts an increased voluntary excess will benefit by a reduced premium. The amount of the excess plays an important role in the underwriting process. When the broker is pitching the policy to the underwriters, the fact that an insured has agreed to retain a large sum to pay itself, an excess, is reassurance that either the risk may not be so serious, or that the insured will be as careful as possible to avoid it. It may also influence the claims resolution strategy, for example if the amount of the claim is less than or close to the amount of the excess deductible, then the insured may be more keen to seek to recover from another party. STAGE 10 - CONCLUSION That brings us to the end of this i-tutorial on Lloyd s and the Subscription Market. You should now be able to: Explain the nature of Lloyd s and the role of the different players Identify how the subscription market works Explain the position and role of the lead underwriter Understand the role of the excess in Lloyd s policies LPC_Elect_0910_ of 7 The College of Law