Senior Lloyd’s Market Association (LMA) finance committee members and eminent CFOs, James Dover and Ken Curtis, explain the challenges faced by the insurance industry and how a new operating model has been developed as part of a wider multistakeholder modernisation strategy.
There are those who view the insurance sector as having had a reasonably smooth ride in recent years, especially from regulators. But insurance is undergoing wholesale upheaval - regulatory changes are having an enormous effect on how insurers capitalise themselves, while changing customer expectations demand a response from an industry that has largely followed the same operating model for decades.
Two of UK insurance's biggest and most thoughtful figures recently sat down with Finance Director Europe to discuss the seismic changes facing their industry and how they plan to meet the challenges. James Dover is group CFO at Tokio Marine Kiln and chairman of the Lloyd's Market Association (LMA) Finance Committee. Ken Curtis currently serves as finance director of the LMA as well as a member of the LMA Finance Committee.
The organisation serves as the industry's lobbyist, think tank, and the home for consensus and expert opinion across the market. There are currently over 2,300 market participants active in over 100 committees and panels, adding their thoughts and insight into issues as diverse as cyber-risk and the skills gap.
The heart of the matter
Curtis and Dover are right at the heart of discussions over how the industry is regulated and capitalised, as well as keeping insurers up to date on the rapidly changing market risks that are emerging continuously.
Top of the list for both is Solvency II, the EU directive that aims to codify and harmonise the EU's regulation of insurance. Central to the new directive is the amount of capital EU-headquartered insurance companies must hold to reduce the risk of insolvency. It has been slowly phased in since the dark post-crash days of 2009 and, for Curtis, the endgame is about to begin.
"You can see how long the market's been working on getting ready for Solvency II," he says, explaining that the industry has spent significant time building their internal models in order to comply with the broad strokes of the regulation.
"But outside of that there's myriad governance rules that you need to comply with. An example of this would be the increased scrutiny by the FCA into how our market ensures that its dealings with customers are fair and transparent. Our response to this illustrates where the LMA really adds value in bringing the community together to enable it to be more cost-effective and efficient when answering market problems."
For his part, Dover believes the LMA as a trade body has demonstrated its effectiveness in the debate over how Solvency II should be designed and implemented.
"The LMA is there to bounce ideas off and come to a consensus on what is best practice for the market," he says. "It is also an effective body in terms of being able to confront issues, regulation is a good example."
In parallel with getting to grips with Solvency II, the London insurance market is also facing change across the sector. That is encapsulated in recently published industry report 'London Matters', which, its backers hope, will serve as a roadmap for how London insurers cope with the challenges they face in the coming years of disruption and uncertainty.
Commissioned by the LMG - the London Market Group, which is the representative bodies of the brokers, the company market, the Lloyd's market plus a number of CEOs of the larger businesses - London Matters was produced by Boston Consulting Group in 2014. In summary, it concluded that London's insurance volumes were growing because the world insurance market was growing; however, London's share of that insurance market has been shrinking over time and suggested a number of reasons why that might be the case.
"A number of those reasons are operational," says Curtis. "They largely centre on what the broking community calls 'Londonisms'; essentially, the things by which we make life difficult for them to bring business into the market.
"One of the consequences of that is that we've kicked off our target operating model (TOM) project in order to modernise the market, get rid of many of those Londonisms, and bring the technology kicking and screaming into the 21st Century."
There are more than 50 managing agencies as well as the broking community and the company market community, all of which you've got to push to be as aligned as possible, want this to succeed and pay for it.
The recommendations of the LMG in response to ''London Matters carry a £250-million price tag over the next five years and feature a number of different elements, some of which have been tried in the past but have proved beyond the ability of the LMG to sell to all of its members, a fact Dover acknowledges.
"This is a market with vested interests. You have about 50 different businesses all competing against each other but we all need to work together for a market to exist," he explains.
"The belief at the LMA is that [modernisation] is the right thing to do but getting those 50 players pulling in one direction with brokers who are coming from a very different agenda at times is tough. With all of those different market participants, you can imagine the complexity."
The finer details
And while Curtis says the LMA and general insurance community is supportive of the report's aims, and accepts the need to modernise and harmonise the way in which London operates internally and in concert with other markets, the "devil's in the detail". Happily, Curtis reports the CEO community - an influential block - has been very much behind making the change, "which a good place to start".
The LMA's support for the suggested reforms is explained in part by the need to guard against complacency. Because, while the Lloyd's market remains pre-eminent in many insurance classes, other jurisdictions are developing their own competing market infrastructures.
Clearly, then, there is an urgent need to address some of the anachronisms that still plague the 350-year-old Lloyd's-dominated market. "London insurance was built on specialism, and the reason a lot of risk business came to London from around the world was because the local markets didn't want it," says Dover. "But, actually, as insurers have grown across the world, their appetite for more specialist business has [also] grown."
Modernising what Dover admits can be "a fairly convoluted system", can't be postponed any longer. London, and Lloyd's in particular, has to add to its specialisms - marine and other well-established lines cannot be relied on forever. It's into that space that classes such as intangible assets and cyber-risks are offering a genuinely new area for LMA members to focus on.
"I think finance directors should realise what we do and what we're seeking to do is to mitigate the risks that they're facing in their business," says Dover. "Many of those risks over time have been tangible assets such as buildings.
"And that's where the shift is now coming, if you look at insured losses compared with total economic losses out of big events, the proportion is still relatively small in certain areas, particularly in the developing world and fast-growing economies.
"Now, we need to evolve, and to tell FDs out in the wider world that we've got products out there that start to close and mitigate some of those risks that aren't physical. There is a push to start insuring intangible assets alongside traditional risks."
Cyber on the mind
One of the fastest-growing threats, and one that is well reported on, is that of cybercrime. Protecting companies against catastrophic data loss is at the forefront of many people's minds. So where are insurers on the learning curve?
"Lloyd's are looking, with the help of the LMA and the whole market community, at exactly how we go about quantifying those risks," says Curtis. "And then we need to define our risk appetite for insuring those types of risk, and we monitor that over time, but it's in its infancy in terms of sophistication.
The real challenge for Dover and his LMA colleagues is to develop critical mass in the assessment and pricing of cyber-risk. Existing models can account for catastrophic losses caused by floods, hurricanes and so on, but so far cyber-risk has largely been tackled on an individual, case-by-case basis.
"Catastrophes, for us, involve lots of losses at the same time, so the risk to us is making sure there's not too many, and controlling that total loss to us," Dover explains.
"And that's the tricky thing with cyber at the moment: what's the catastrophic event that we suddenly have 100,000 claims, and are we sufficiently capitalised and protected to do that? That's really where the cyber-risk in the industry is: that aggregation question. But that's why Lloyd's leads the world in innovation - we've always taken new risks, and found ways to insure them that work for everyone."