ILS an example of UK regulations failing to support industry: LMG CEO

At a time when London’s market share in reinsurance has stagnated, the insurance-linked securities (ILS) sector in the United Kingdom and its failure to gain traction so far is an example of regulation failing to support the market’s ambitions, representatives of the House of Lords heard in a hearing yesterday.

Yesterday, UK parliamentary group the House of Lords Industry and Regulators Committee, heard from representatives of the London insurance and reinsurance market as a an inquiry into regulation and its effects on the competitiveness of the London market began.

As we explained earlier this month, this inquiry presents an opportunity for the topic of ILS regulation in the UK to be assessed and questions to be asked over whether it is too onerous and the approval process too slow.

Speaking at yesterday’s hearing, Caroline Wagstaff, the CEO of industry trade-body the London Market Group (LMG) jumped immediately to insurance-linked securities (ILS), raising it with the Lords as an example where regulation has failed the industry.

First, Wagstaff gave some context on the London market and highlighted the competition it faces from other insurance and reinsurance centres around the world.

Wagstaff explained that the London market’s share of global insurance and reinsurance business has been “broadly stagnant for the last decade.”

Continuing to explain, “The largest category of business is insurance, which is about 70% of what we do, that’s grown very slightly, around 1%, so nothing significant.

“If you look at reinsurance, our market share has shrunk by 2% in the last decade and that’s because really we’re not as competitive on cost and the cost-of-capital particularly in that sector of the market as some of our competitors are.”

Which of course is highly-relevant to insurance-linked securities (ILS), as well as to the use of capital market infrastructure to support reinsurance capital, which has clear relevance to cost-of-capital and could be a significant contributor to reducing that for the London market and its participants.

Wagstaff said that, “London’s growth historically comes from its ability to be at the cutting edge of new risk management products. That’s where our historic strength has been.”

She explained that the insurance and reinsurance industry needs a greater understanding from its regulators that there is proportionality in how they apply the rules.

Different insurance companies present different levels of risk and the regulators need to apply this in their thinking and how rules are applied, she implied.

“The regulators need to help us compete in this increasingly competitive world,” Wagstaff said. “We’re a strong market and in a good position, but we’re not without threat, market share is stagnant and we’ve got other insurance centres around the world that would like to eat our lunch, to be frank.”

Going on to say, “We would like the regulators to help us to be more competitive. So we think they need to take that into account when they are looking at how they are setting new regulations and imposing existing regulations and having done that they then need to be held accountable for that.

“We think there needs to be some third-party accountability, both on what they’re doing and how it’s getting done.”

Here, Wagstaff turned to insurance-linked securities (ILS) and explained that despite significant effort in setting up the UK ILS regulatory regime and relevant legislation, so far this has not delivered the benefits that it could have.

Of course, there are numerous reasons for this, from tax treatment of ILS structures and vehicles, to overly onerous regulation, to the slow regulatory approval process and speed to market for the establishment of new ILS structures in the UK.

These have hindered the ambitions to turn the UK into a competitive marketplace for insurance-linked securities (ILS) such as catastrophe bonds.

On top of which, there has been a general distraction away from one of the original stated goals of the UK’s ILS regulatory regime, that it should serve to help make London a more competitive, efficient and effective insurance and reinsurance marketplace, which Wagstaff went on to explain.

“In terms of giving you an example of when it doesn’t work, I’d like to talk about the insurance-linked securities (ILS) market, which is a bit out there in the technical end of the reinsurance market, but it’s a huge global market.

“The UK had none of this market five years ago and the London market thought it was really important to join in. We worked with Treasury, we worked with the regulators, to create a really good environment for this in the UK,” Wagstaff told the Lords.

Having implemented the regulations in 2018, Wagstaff highlighted that just five UK ILS arrangements have been implemented since, over which time hundreds have been set up and transacted elsewhere around the world.

Wagstaff said that, “If you go across to Singapore, they took our regulation, because it was really first-class, they lifted it and dropped it in Singapore and in less time than we’ve been at it, they’ve done 18 of them.

“In fact, they did six last year and that’s £700 million of income that could have come to London and didn’t.”

She said that the UK’s ILS ambitions are, “A living breathing example of why you can put the best thing into practice in theory, but if it doesn’t work in practice it’s not helpful.

“And the reason it doesn’t work is that the regulators treat the ILS market like any other insurer. Even though it poses a lot less risk, all the money is in the bank for the claims that come in, they’re very sophisticated investors, it’s a completely different beast.”

Steps are being take to attempt to increase the competitiveness of the UK’s ILS regulatory regime and to encourage more activity to be domiciled here, such as the recent work to exempt insurance-linked securities (ILS) from Stamp Duty related taxation.

In addition, recently, the United Kingdom’s Prudential Regulatory Authority (PRA) said that it recognises the need to improve the country’s authorisation process for insurance-linked securities (ILS) vehicles, noting that the time taken to set up structures is a factor.

Which are positive signs and suggest the focus on improving the ILS regulatory regime in the UK will continue, as too do the comments from LMG CEO Wagstaff and the fact she has now raised this issue in front of the House of Lords committee.

It is important though, that the UK’s ILS ambitions are not solely focused on benefits for the London market and revenue for the government.

There also needs to be a focus on the partnership that will happen with international investors and ensuring that the regulations are proportionate and beneficial to all sides, while giving investors confidence in their robustness to protect their investment capital.

We explained back when the UK began its ILS journey, that given the expertise of the London insurance and reinsurance market, the countries robust financial market infrastructure and regulation, as well as its standing as a capital market, that it could become a major hub for ILS business in the future.

That hasn’t happened so far, but the ambition still exists. What needs to happen next is a wholesale look at what ILS can do for the UK, as well as what the UK can offer the perhaps the most important stakeholders in the insurance-linked securities (ILS) value chain, the international investors who put up their capital to back risk.

Delivering on the investors needs in ILS, should ultimately deliver on what the London market needs to stay competitive and perhaps enhance its position on the global reinsurance stage.

Also read:

– Parliament inquiring into London market re/insurance regulation.

– UK’s PRA wants to improve ILS authorisation process and speed.

– UK Gov committee approves plan to exempt ILS from Stamp Duty taxes.