Good afternoon ladies and gentlemen. I am delighted to be here this afternoon and have the opportunity for this to be one of my final speaking engagements in my role as Franchise Performance Director.
I first spoke at the ALM Conference six years ago when I had just joined Lloyd’s and I remember wondering if I should do it or not. It was one of my first speaking engagements in my new role. It was with some trepidation that I took to that stage in 2003, particularly given the troubled relationship that Lloyd’s and the ALM had experienced in the past. Luckily I survived, you were gracious enough to listen to what I had to say, and I have been grateful ever since for the support that you have shown me and my team as we have embarked on some very significant challenges.
I pledged to you then that Lloyd’s would have a different future, that was six years ago, and I can confidently stand here today and say that we have one. At that time, I suspect I was not the only one in the room with some reservations about the market’s commitment to change.
Lloyd’s faced huge challenges – not least whether to continue to operate as it had done for decades or institute a process of change that would produce sustainable profits and secure our assets for future years. There was much at stake, including our brand name, reputation and licences to trade.
I am pleased to say that the market rose to the challenge and has completely transformed itself. We proved our critics and the naysayers wrong and today we are in better shape than ever. There is no denying that this journey has been a difficult one and it is certainly not over yet – so there is more work to come for you Tom.
This afternoon I would like to reflect on this journey and also to give you some insight into the opportunities and tests that the market is likely to face in the future.
So, let me start by going back to where it all began in 2003. I don’t need to remind you of the difficulties that Lloyd’s had found itself in. Poor underwriting standards, huge cat losses and uncommercial businesses written were the order of the day.
Perhaps the most frightening thought is that there was almost universal acceptance that the boom and bust nature of the market, where for every 7/8 good years the market threw it all away for 2/3 bad years, was normal.
There was also a feeling that a number of businesses were playing with investors money, betting on the wind not blowing and the earth not shaking rather than making decisions based on scientific evidence and historical data.
It was in this context, with the findings of the Chairman’s Strategy Group freshly delivered, that I entered the market. Although I was lucky to have inherited a mandate for change and a clear prospectus of reform there were many of my friends, market contacts and members of the Corporation who could not see that Lloyd’s could be transformed without losing its ultimate raison d’etre of being a market.
In the Chairman’s Strategy Group, Lloyd’s had identified three main objectives to create a modern, transparent and profitable market:
- to make Lloyd’s the preferred market for policyholders, brokers, underwriters and capital;
- to create and maintain a commercial environment at Lloyd’s in which the long term return to all capital providers is maximised; and
- to create a disciplined marketplace of well managed business.
Three objectives that I am happy to say we have met.
So how have we done this? Firstly by getting the basics right, setting guidelines and standards and recognising the importance of relationships.
Perhaps the key change that continues to underpin everything that we do was the introduction of a commercial, robust and transparent business planning framework. This symbolised and completed the transformation of the Corporation from a regulatory body to a commercial partner.
Despite the initial fears over policing, micromanagement and a dampening of entrepreneurial spirit, this process is now not just accepted by the market but is recognised as the linchpin of a performance management framework.
The business planning process was supported by the creation of common sense, pragmatic guidelines, created by senior market practitioners. These set a clear vision for underwriting but were flexible enough to adapt to the ever changing dynamics of the market. They were underpinned by the introduction of standards for underwriting and claims which set a baseline standard which businesses were expected over time to exceed not just meet.
Structural changes are all well and good but it was affecting a change in behaviour that proved most challenging – both within the market and the Corporation.
For a market that had pioneered new and innovative insurance products for over 300 years, it had been fiercely resistant to changing a number of its business practices.
It had seemingly become addicted to riding the crests of the boom and bust waves. Preparing for a downturn rarely featured in underwriters’ thinking.
Our challenge was to maintain the opportunistic trading that had helped establish Lloyd’s name, while at the same time insuring that businesses understood the downside of their underwriting and were prepared for sudden market changing events. We had to instil a more strategic long-term approach to underwriting that looked beyond the annual venture.
We also faced a number of challenges internally within the Corporation as we struggled to change from a regulator to a commercial partner. There was an established mindset and historical ways of working that we had to breakdown. Instead of just establishing clear rules and strict procedures and processes we had to be flexible in our approach and inject the principle of commercial pragmatism into everything that we did which from time to time meant to show teeth when necessary! We also had to ensure that we had access to relevant, appropriate and timely information – something that had previously been unavailable. Over the last six years, we have introduced and developed a suite of management information that provides granular insight into premiums, claims and exposures. From the Performance Management Data returns to the enhanced realistic disaster scenario framework – these tools have enabled us to engage more closely with the businesses in the market to approach the approval and monitoring of performance.
I hope you will agree from this brief shopping list that we have achieved an awful lot over the last six years. For someone that was not a stranger to the peculiarities of the London market I have been overwhelmingly impressed by not only the depth and breadth of the changes but the energy with which the market has embraced the CSG vision.
I have also been fortunate to have had the support of a very good team internally who have provided the skills and experience necessary to implement the franchise performance strategy. I am very proud that we have today, in all areas, experts who can work with the market as respected partners, be it underwriting/claims/analysis/exposure management
So that’s the history lesson. Where do we find ourselves now and where do we need to go in the future?
I don’t need to tell you that we are living in extraordinary times. While I’m an optimist, I’m also a realist and there can be no doubt at all that we are still in the midst of the worst economic crisis the world has seen for 70 years. The sums involved in the response of governments, be it through bank recapitalisation, fiscal stimulus packages or borrowing, indicates the scale of the malaise.
We have created debt to an extent which previously only would be done in times of war.
Whether a few green shoots of recovery are really starting to sprout remains to be seen but one thing is certain – the road to a ‘new normality’ will be a long one.
It is important to remember that some parts of the financial services industry – thankfully including insurance – have come through the recession largely unscathed. I needn’t overstate to this audience that insurers are, after all, selling a non-discretionary product. Even as asset values fall, our customers still need to buy cover for their risks.
The recessionary environment also increases demand for our services as businesses seek to protect their remaining assets and their bottom line. It is, after all, little known outside our industry that the insurance cycle is counter cyclical to the stock market and that the insurance industry did better during the Great Depression than for most of the boom years of the 1980s.
That isn’t to say that insurance companies have all escaped involvement in the recent calamities. The near-death experience of AIG last September should act as a warning to us all about the dangers of getting involved with products that you don’t fully understand or where you easily underestimate the potential impact.
But in general, our industry is in a strong position. We haven’t been subject to the devastation inflicted on other sections of the financial services industry and the wider economy. But far from merely surviving, our industry is in fact living in an age of opportunity. But success will only come if we use our resources of intelligence, expertise and entrepreneurship to anticipate future trends and to seize these opportunities.
At Lloyd’s we have noticed several opportunities that arise directly from the current recessionary environment. The growing trend among large insurance buyers to spread their risk benefits a syndicated market such as ours.
There is also in times like these a flight to quality. A recent poll found that a third of corporate risk managers and executives said they have replaced – or expect to replace – their insurance companies due to perceptions of their insurer’s financial health.
Let me now touch briefly on some of the reasons why Lloyd’s has been able to emerge almost unscathed from the financial crisis and why I am confident in the market’s ability to enjoy future success in the years to come. I believe there are wider lessons to be learned from Lloyds’s experiences.
We of course came through our own near death experience “in fact twice” and as I said earlier we had to take a very hard look at how business was conducted – our culture, our processes, our priorities. During the recent boom years, Lloyd’s stuck to a cautious investment policy, much to the amusement of some commentators and more bullish competitors. But it paid off, and we’re sticking with it.
We also stuck to what we know and understand best - traditional insurance and reinsurance products. In essence, we focussed on our core strengths. But we certainly did not stand still. For we like to think that the Lloyd’s brand, over many, many years, has been synonymous with innovation, flexibility and a spirit of adventure.
We remain committed to expansion into international markets, particularly at a time when growth is more challenging closer to home. We became the first overseas reinsurer to be admitted to the Brazilian market last year and we’ve been operating as a reinsurer in China for two years now. We also recently obtained new establishment licences in Poland, Austria and Portugal.
All of this has helped us achieve a profit of approximately 1.9 billion pounds in 2008 and to maintain in excess of 2 billion pounds in the central fund. In fact we achieved from 2003-2008 an overall bottom line profit in excess of approximately 12.5 billion pounds. This is a fortunate position, but it is not one we can take for granted. There is no room for complacency in today’s fiercely competitive, global marketplace. There is no doubt that the global recession, with lower levels of economic activity and trade, means that the underwriting environment will be challenging. We are likely to face claims inflation, a fall in insured values and an increasing number of fraudulent claims. There are, as we in our industry know there will always be - continuing and emerging risks.
So how do we preserve this strong position? I am not advocating a huge change from what we have been doing over the last six years. We need to continue to do the basics well and continue to focus on gross underwriting profit and underwriting discipline. This remains the mantra that underpins everything that we do. As a market, we can never afford to lose sight of this and forget that we have a responsibility to pay the claims of our policyholders and deliver returns to our investors.
I am pleased to be able to pass on the baton to Tom Bolt, who officially takes over as the Underwriting Performance Director on 1st January and is already working alongside me – now for the second day.
I know he shares the Lloyd’s vision for effective performance management but I am certain he will bring his own perspective to the role. Although he has worked in the London market for some time, he also brings a global view gained from his years working abroad. I am sure you will join me in welcoming him to the market and will give him your full support going forward as you have given me.
So what does the future hold for Lloyd’s?
I truly believe that the future is bright for Lloyd’s but like any marketplace we will continue to face challenges and will need to ensure that we remain in a strong position to take advantage of new opportunities as they arise.
Before talking about the challenges of catastrophe risk, demographics and climate change I would like to briefly address another challenge that is in my view of equal importance, if not even bigger to us as a market and to you as investors – Solvency II. This landmark regulatory change will transform the landscape of the insurance industry, it’s supposed to align the approach to risk, capital and business planning across Europe. As always the devil will be in the detail and we have a team working full time in the Corporation to help the market prepare for the introduction of Solvency II in 2012.
Obviously the burden will be especially high on smaller businesses in the market and we are fully committed to support implementation through the various phases over the next two years. We are well aware of the potential consequences – both good and bad – of Solvency II. S&P have recently speculated that it could drive further consolidation in the marketplace, potentially undermining the diversity and competitiveness of our market.
One of the other key issues for Lloyd’s going forward will be the need to focus on the dramatic increase in risk and exposure that has been seen in the worldwide insurance and reinsurance industry. We continue to see values dramatically increase in US states such as Florida and the continued emigration to these regions will inflate our exposures. A recent report from risk modelling agency AIR estimates that over the past three years the insured values in US coastal areas grew at a compound growth rate of just over 7%, and that cost to rebuild properties has maintained an annual growth rate that will lead to a doubling of the total values every decade. Indeed the population of Florida has grown from 2.3 million in 1950 to a projected 19.3 million next year with 80% of insured assets located near the coast.
Alongside this increase in exposure we are continuing to see very different weather patterns as the impact of climate change continues to affect our industry and the likelihood of ever larger hurricane losses becomes an inevitability.
The full impact of the economic crisis has also yet to be felt on long tail business, particularly on liability business. While the number of claims notifications from subprime have remained relatively stable it is likely that we will see an increase in claims arising out of the banking crisis and recent well-publicised frauds both here and in the US. The impact of inflation in the next few years will also continue to impact on both claims and exposures – and inflation we will get.
For these reasons caution needs to be exercised on both property and casualty business and the question that always needs to be asked - are underwriters charging an adequate rate for many of the risks written today and are they fully pricing in for the claims of tomorrow?
Many people in our industry remain in my opinion overly bullish about the current rating environment and I continue to hear, in my view, an over-placed optimism from many Names.
I would urge you to remain cautious as you review your underwriting for 2010 and to never forget that there always remains a significant downside in our business. In this relatively strong environment it is all too easy to “over expose” yourselves and current capital levels and diversification arguments can, and do, give those with a diversified portfolio of syndicates a false sense of security. The Lloyd’s market, is by its very nature, a volatile market. While we are all well prepared for our cat exposures, we must never forget that when the mega mega loss hits, which is bigger than any RDS, there will be a massive impact on almost all syndicates and lines of business. The aggregate impact of this type of loss will have major ramifications for capital providers.
So where do we see the market’s composition going? As we all know Lloyd’s has changed massively in the last 15 years with the influx of corporate capital and more recently with the flood of US and Bermudian buying in to the current Lloyd's success story. The arguments with regard to what is the appropriate or the right kind of capital for Lloyd's have now largely subsided and the composition of capital between traditional and corporate has broadly stabilised. Finally there is recognition that diversity of capital is both prudent and commercially pragmatic. I trust that going forward that this market continues to see the obvious advantages of a variety of capital providers.
Names remain a key source of capital for this market and while you have formal rights I would encourage you to remain flexible and pragmatic in the way you support managing agents and also to consider the opportunity in creating a syndicate or syndicates which are 100% supported by you.
In conclusion, I hope I have demonstrated to you today just how far as a market we have come over the last six years. Our future is certainly much more secure but we cannot afford to be complacent and ignore the challenges that will continue to face us.
It has truly been an honour and a privilege for me to serve as Lloyd’s Franchise Performance Director over the last few years. I would like to end by thanking you for all of your support, your honesty and constructive criticism and to ask that you continue to support Lloyd’s and Tom as he takes over in his new role.
