Lloyd’s of London has acknowledged that the reinsurance world has changed and that it is time that the world’s oldest insurance market caught up with recent trends. In response, Lloyd’s is actively looking to develop structures to welcome alternative capital into the market.
In its half-yearly results today, the Lloyd’s Chairman John Nelson and Chief Executive Inga Beale, explain in a statement that the market is actively exploring ways to welcome alternative capital into the market, to the benefit of its existing operators and members.
“Recognising changes in the broader marketplace, particularly the reinsurance market, we have been considering ways in which the Corporation can develop structures that would be attractive to alternative capital,” the statement explains.
It’s interesting to see this coming from Lloyd’s now, at a time when its profitability has declined significantly, with its half-yearly results this morning showing a 28% decline in profits and a decline in return on capital from 16.3% in H1 2014 to just 10.7% in H1 2015.
Premiums written by Lloyd’s are reported as £15.51 billion, up from £14.48 billion, and while the investment return has halved to 0.6% from 1.3% and combined ratio is up at 89.5% from 87.4%, the decline in profitability is clearly due to reinsurance market conditions spreading into core Lloyd’s specialty lines.
Inga Beale said; “These results demonstrate Lloyd’s success and resilience despite challenging underwriting and investment conditions.”
It’s true, the results remain strong in a difficult market.
John Nelson added; “Over the past six months Lloyd’s has continued to outperform its competitor group. Although there is little doubt that challenging times lie ahead, Lloyd’s is in a robust financial position, well capitalised and well reserved to face the future.”
But what if these challenging times are a new normal for the reinsurance market? How does a market like Lloyd’s boost its return on capital back to the sort of range that capital providers had previously been used to seeing? Perhaps it won’t ever see those levels of profitability again, as the returns on re/insurance business remain depressed.
So it’s not really a surprise to see that Lloyd’s is actively working on initiatives to bring third-party or alternative capital into the insurance and reinsurance market. Lloyd’s is likely working alongside the London Market Group’s ILS task force on initiatives around collateralised reinsurance, looking at how third-party capital can augment the markets capacity for doing business and also reduce its cost of capital at the same time.
“We are currently looking at the role the Lloyd’s platform could play in harnessing that capital to the benefit of our managing agents and to make our platform more competitive,” the statement from Nelson and Beale explains.
It’s not surprising to read this today, but given the Lloyd’s market was built on third-party capital, perhaps it is responding a little late in the day to the recent wave of insurance-linked securities (ILS) and reinsurance as an asset class interest.
Third-party capital has always been attracted to the Lloyd’s market, providing underwriting capital to its members and syndicate underwriters, in return for a share of the profits and rates-on-line. Continuing that with the likes of global pension funds, family offices and other ILS investors makes perfect sense.
The statement explains that Nelson and Beale; “Anticipate providing more information on this in the autumn,” which suggests that the work is well underway and we could hear some news very soon.
With special purpose syndicates and funds at Lloyd’s already bringing some ILS capacity into the market, as well as the Nephila Capital Syndicate 2357, the structures already exist and likely only require some tweaking. However, we still offer our suggestion of a ‘whole of Lloyd’s’ fund or sidecar, enabling investors to share in the returns of the market’s diversified underwriting portfolio.
Looking ahead the statement says that Lloyd’s expects that; “Market conditions globally, combined with the investment outlook mean that the pressure on financial performance for Lloyd’s will be as intense in the medium term as at any time over the last decade. We should expect that an extremely challenging time lies ahead.”
A challenging time lies ahead for much of the insurance and reinsurance market, while conditions remain as they are. If the cycle has been changed for good by the recent structural changes and ongoing entry of alternative capital, then Lloyd’s needs to have a response that can help it to either increase efficiency, reduce cost of capital or extract more premium from the risks underwritten there.
Alternative capital can help the Lloyd’s market to achieve, or at least move towards, a number of those goals. Moving now, rather than waiting to see if conditions improve, is advisable.