Lloyd’s to proactively embrace reinsurance convergence trend

by Artemis on April 15, 2014

As suggested previously by Artemis, the Lloyd’s of London insurance and reinsurance market’s new strategic plan, published today, calls for the market to proactively embrace reinsurance convergence and new capital sources as a key strategic priority.

The Lloyd’s market has leveraged third-party capital since its beginnings, with Lloyd’s Names and other capital providers participating in the market through managing agents, syndicates and other corporate members. With the increasing rate of convergence between reinsurance and the capital markets beginning to pressure Lloyd’s it was clear that a change in tone towards alternative capital would eventually be noticed.

That tone had begun to change in recent months and the publication of the new Lloyd’s strategic plan was a clear opportunity for the market to portray a more accommodating face towards the institutional investors that would dearly love to be able to access the returns of Lloyd’s more flexibly.

The strategy published today, lays out how Lloyd’s intends to work towards the long-term goals which are part of its Vision 2025 strategic direction. The strategic plan details how the market intends to work with brokers, managing agents and importantly capital providers in the wake of the evolving re/insurance distribution environment.

Increasing the diversity of the capital base at Lloyd’s is a key part of the long-term vision and the strategic plan goes some way to spelling out how it intends to accomplish that.

Chairman of Lloyd’s John Nelson opens the strategic plan as follows; “We all know that Lloyd’s has an extraordinary opportunity to grow in developing economies around the world. We developed Lloyd’s Vision 2025 in part to address this opportunity. This plan sets out how we will work towards achieving our 2025 goals over the next three years. It details how we will work with managing agents, brokers and capital providers to manage the changing distribution and capital environment. It sets out how we will seek innovative solutions to make the Lloyd’s platform flexible and efficient, but above all attractive to insurers, brokers and policyholders. This strategy requires active participation from all parts of the Lloyd’s market.”

New CEO of Lloyd’s Inga Beale has a chance to make her mark with this document and her tone is much more accommodating than we’ve perhaps seen from Lloyd’s CEO’s past. Beale said; “Diversity of capital underpins Lloyd’s current and future strength – strategically and financially. Encouraging diversity by both geography and type of capital is important, ensuring that Lloyd’s responds positively to trends in capital provision and the growth of the (re)insurance sector in developing economies.”

One of the key pieces of the Vision 2025 document for potential capital providers is Lloyd’s desire to make entering the market more flexible for investors. The vision is for Names capital providers to be able to access the market more easily; “Private ‘Names’ capital will continue but new ‘Names’ capital will be provided on a more flexible basis and more efficiently, mainly via Special Purpose Syndicates.”

That is much more aligned with how alternative capital would like to access the returns of Lloyd’s and already does in some cases through a number of vehicles which allow investors to participate more flexibly at Lloyd’s and with lower entry barriers or friction.

To show the importance of becoming more accommodating to alternative capital the Lloyd’s strategic plan explicitly lists ‘Reinsurance Convergence’ as one of the; “Six strategic priorities which are either key to the delivery of Vision 2025, or are critical to the ongoing successful performance of the market.”

One of Lloyd’s strengths is its diverse capital base having a model that has been built around third-party capital. Lloyd’s recognises that maintaining its attractiveness with potential capital providers is key to the markets continued success. That means working with alternative capital, as well as traditional, and more fully embracing reinsurance convergence.

The growth of non-traditional reinsurance products and capital is an established feature of the reinsurance market. Lloyd’s notes that the pricing pressure created by alternative capital, particularly in property catastrophe reinsurance business, has implications for one of its traditional market segments.

Instead of fighting back it looks like Lloyd’s is going to join the ranks of the traditional reinsurers by seeking to embrace and harness non-traditional or third-party reinsurance capital for its own benefits.

The strategic plan says; “Lloyd’s response is to be proactive and to embrace this trend. Over the longer term there is an opportunity to harness capital from both traditional and new sources.”

The plan notes that new capital already participates in special purpose syndicates and through Funds at Lloyd’s, as well as taking the role of counterparties in outwards reinsurance programmes.

It also notes that use of new product types tends to happen outside Lloyd’s, as the market provides indemnity based insurance and reinsurance products which it feels best meets the needs of clients as they remove basis risk. However, despite this fact Lloyd’s plan says that new products will have a growing role in the market, which is encouraging as it may allow other initiatives like Nephila Capital’s syndicate to operate in the market.

The strategic plan lays out the responsibility of the Corporation of Lloyd’s in helping these strategic priorities to be realised. For convergence the Corporation will; “Support market-led initiatives that encourage a diverse range of capital at Lloyd’s by removing obstacles and adopting facilitative measures, where appropriate.”

The plan says that Managing Agents at Lloyd’s will; “Develop their own capital management strategies, including contingent capital arrangements.”

Brokers will be responsible for facilitating the introduction of new capital, often through their advisory arms. We would imagine brokers will have a multitude of ideas as to how they can help new capital enter Lloyd’s, so it will be very interesting to see if any initiatives get developed.

One caveat for any initiatives which seek to help new third-party or alternative reinsurance capital to enter the Lloyd’s market is that it needs to bring with it new business and people.

The five-year Lloyd’s market goal on capital convergence is; “The geographic diversity of Lloyd’s capital base will significantly increase, subject to this capital bringing new business and people. Subject to market conditions, Lloyd’s will retain its unrivalled diversity of capital, through growth in all types of capital participating at Lloyd’s (private, trade, institutional and other).”

For 2014 the Corporation of Lloyd’s is tasked with continuing to; “Build relationships that focus on increasing the understanding of potential new capital providers as to how they can participate at, and bring new opportunities to, Lloyd’s.”

In terms of communications around alternative capital, the Corporate of Lloyd’s will continue to bang the indemnity drum as the preferred type of insurance or reinsurance structure. The plan says that communications will contain; “Core messages to include promoting the benefits of indemnity (versus parametric) solutions as best meeting clients’ needs.”

The corporation of Lloyd’s will also work to further its understanding of managing agents’ use of alternative capital, an area which might help us to better understand just how much capital cross-over there already is between the ILS and alternative reinsurance market and investors already participating at Lloyd’s.

The Lloyd’s strategic plan for 2014 to 2016 does not go so far as to spell out potential facilities or ways that the market could harness much more institutional money from the likes of pension funds, but it does provide a framework through which such ideas can now be explored more readily with the Corporation.

That is a positive step forwards and away from some of the more negative commentary that Lloyd’s had been associated with a year ago on alternative capital providers. It certainly looks like the market is more open to discussions with large institutional capital providers now than perhaps at any time in its recent history.

Whether anything comes of this, aside from a gradual inflow of capital into special purpose syndicates and funds operating at Lloyd’s remains to be seen. We still stand by our suggestion that Lloyd’s could look to control the flow of capital itself, creating a third-party capital backed facility which allows investors to provide capacity in return for a diversified spread of the Lloyd’s underwriting market. That would, to investors, be a very attractive proposition.

You can access a copy of the Lloyd’s 2014-2016 strategic plan via its website.

Also read some of our other recent articles on the Lloyd’s of London insurance and reinsurance market:

Will Lloyd’s look to embrace third-party reinsurance capital?

Lloyd’s Nelson: £3.2bn profit, pressure from new capital to continue.

Lloyd’s can evolve to suit reinsurance market dynamics: Nelson.

New reinsurance capital, a challenge to Lloyd’s or an opportunity?

Lloyd’s Nelson: Alternative capital can help insurance grow to $2tn by 2025.

Lloyd’s Nelson warns on ‘systemic’ risk of alternative reinsurance capital.

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