The London Market is an intensely precious asset that we all share. The market is the most significant single concentration of insurance talent in the world. It is the single place where insurance talent - underwriting, broking, advisory talent - meets capital in sufficient quantities that you can meaningfully call the result "a market".
We have enjoyed this happy position for some considerable time. So long, and despite our often determined efforts to sabotage it, that you might be forgiven for thinking we have found the secret of eternal life. But such a foolhardy and lazy illusion has no place in our competitive world. We cannot assume that the world will continue to channel its capital and its risk into London, and into Lloyd's. We do not have a God-given right to exist. We have to earn it.
That earning of our existence begins with making an underwriting profit. The world simply will not forgive another bout of near self destruction. But I am not here to deliver that message again. Most people would at least say they know it to be true. The challenge is to turn that knowledge into action.
No, I am here to talk about a priority that is equally as important.
Harking back to the snappy title I was given, I am here to talk about improving operational performance in the London Market.
I cannot say more emphatically that achieving fundamental improvement in our operational performance in London is essential to our survival as a market. It is not an option, it is not a nice to have. It is central to the future of this market. And we do not have the luxury of being able to address the issues at a gentlemanly pace. The need for improvement is urgent. Urgent for commercial reasons, urgent for regulatory reasons, urgent for that most basic of reasons - self preservation.
Let me explain this urgency. It is not born of abstract sermonising but a hard headed assessment of reality.
The commercial urgency should be felt by all those who transact business in the London Market - underwriters and brokers. The London Market brokers and underwrites risks from all over the world. In order to get here those risks pass, often, through several pairs of hands, and finally through the hands of the London broker. The risks are then, often, shared between a number of underwriters on a subscription basis.
Those features, the multiple steps in the distribution chain, and the subscription market, are not bad in themselves. Far from it. In the case of the distribution chain, it is a function of the expertise that London brokers have in understanding, packaging and presenting complex risk where the relevant local retail market does not have that expertise. Significant value is added, value that should be and is recognised. Equally the subscription market for underwriting enables complex and high value risks to be underwritten competitively, or in some cases at all.
The policy holder therefore gets real benefit from this business process. And yet the process generates frictional cost far in excess of what you would expect in other financial services businesses. The cost of business process in London is simply too high. And post Spitzer, the chances of maintaining a costly or complex process have just gone down. Client, broker, and underwriter managements everywhere are asking themselves "Where does it make sense to do business?"
The world needs our expertise, but it doesn't need our cost base or our complexity. And if we don't address them, the world will channel its risks elsewhere.
That does not mean getting rid of the London broker or the subscription market. What it means is being ruthless and radical in our willingness to change or remove the unsatisfactory aspects of the way we do business. Only then will we be able to preserve the London and Lloyd's market remotely as we know it. Brokers and underwriters in the audience have an absolute community of interest in this.
The uncomfortable truth is that the premium base of this market is not guaranteed. And I am talking here of the full gamut from cover holder business through to the international risk management programmes for complex global organisations.
Yes, the London model is potentially unbeatable - a single centre of expertise and capital, seeing, shaping and underwriting risks that come from far and wide. But the world will only continue to channel its risk to London if the price that is paid for all that expertise and capital is justified by the benefits. Otherwise we will be quickly marginalised - we will be putting down our pens out of necessity rather than virtue. Still all dressed up, but with nowhere to go.
So we need to change in order to ensure that business continues to come to Lloyd's and to London. Anything that adds to the cost or difficulty of accessing London must be removed.
But there is another commercial reason for change: to reduce risk.
We are in the business of risk. We deal with some of the most volatile, dangerous and significant risks in the world.
And yet, ironically, we compound that risk by handling it through a business process that breeds operational risk. Our inability to create a secure audit trail for risk disclosure means that brokers are exposed to Errors and Omissions risk, and underwriters are unclear what exposure they have truly assumed or reinsurance protection they have. The absence of proper and/or timely documentation detailing the substance of the transaction at the time the transaction is concluded exposes brokers, underwriters and policyholders to uncertainty and cost. We rely on the archaeological skills of the legal profession to recreate what might have been agreed, at massive cost. Capital is misallocated, cost is incurred, expectations are not met. And risk is created.
Commercially, then, we have to change our process - both to make sure our cost base allows us to continue to see the premium flows into London that we see now, and to reduce the level of operational risk in all of our businesses, broking and underwriting.
To those commercial imperatives, we can now add the interest of the world's regulators. Following the Spitzer intervention, who can possibly doubt that we need a transparent, auditable and structured record of the process of a transaction? And following the Tiner intervention, who can doubt that we must have a proper and prompt record of an insurance contract?
Anything resembling opacity of economics or opacity of exposure will not be welcome in today's international regulatory environment. Remember, the UK industry was, in December, set a deadline of two years by John Tiner to get ourselves sorted out and make substantial, demonstrable progress on the issue of contract certainty. Soberingly 5% of that period of grace has now elapsed. And, quite rightly, I expect sanctions, be they capital loadings or restrictions on activity, to be taken against businesses who do not improve.
Commercial imperatives. Regulatory necessity. Finally, the tried and trusted formula of innocent wishful thinking that the problem will go away and business resume as usual just won't wash. So what do we do?
Let me offer some suggestions.
First we must understand that because business process change is important, it requires investment. When I say investment, I am not talking first about investment in technology. I am talking about Investment in people, management attention and above all behaviour.
Investment in behaviour is essential because no technology solution is a panacea. Not one of the mysterious, multifarious acronyms or project names you hear about is a panacea. Not Kinnect, not CLASS, not Claims Repositories, not Accounting and Settlement. These are only the means to facilitate, get the most out of behavioural change.
Systems don't create process change; businesses, working with their trading partners, create process change by agreeing how to behave and what standards to adopt. Then they use systems to support that chosen behaviour and enshrine those standards. And obviously the fewer the number of systems, the more harmonised the behaviour and the easier it is to enshrine standards. But without changes in people, management attention and behaviour, technology cannot unilaterally achieve change.
On people, one of the most positive developments in the market in recent years has been the arrival of a number of Chief Operations Officers. For a few businesses, at least, operations have ceased to be just an administrative issue and become a primary focus of management.
This is particularly critical in claims management, traditionally an area accorded low or no priority. Strange, considering claims are by far the largest item in our cost structure.
The economic case for more effective claims management in underwriting businesses is overwhelming. But in order to realise that economic potential, quality attention needs to be given to the issue. Every underwriting business should be asking itself, "Are we taking our management of claims seriously enough? Why are we exposing ourselves to operational risk and cost that could be avoided? Why are we misallocating capital by taking decisions based on an incomplete understanding both of our exposure and the true cost of our product?"
The claims management principles recently introduced by Lloyd's are a first step towards putting claims squarely on the main agenda for every business.
The principles describe management attention and behaviour in a number of key areas of claims management.
For instance,
- documenting the handling of a claim
- having disciplined practices for selection and use of third parties
- measuring performance
These principles are all about management attention, and consequently behaviour. Boards of underwriting businesses should be according a high priority to these principles. The next stage for us will be to translate them into a set of minimum standards this year.
Another issue where management attention is the key is to develop a practical plan to deal with legacy. Un-issued policies, dormant claims, represent potential uncertainty and hence potential operational risk. In the allocating capital those underwriting businesses that have material legacy issues that create material uncertainties should be allocated more capital to reflect that risk.
But equally we must understand the real problem; which are the legacy issues that really matter? Legacy is an important issue and it gets in the way of thinking about the future; it is also a notoriously intractable (and, therefore, time consuming) one, so we must use our energy wisely. The market must devote focussed attention to figuring out what the real problem is, develop a practical plan to deal with it, implement it and move on. The Market Reform Group has now set about developing that plan.
But perhaps the most significant step I can suggest in changing behaviour is a simple and topical one.
Let us agree to shine a harsh spotlight on the economics of our business by agreeing to full disclosure of commissions through the distribution chain. And just as importantly, in doing so, let us explicitly acknowledge that what is being disclosed is where and to whom the money that the policyholder has paid is going.
We are here to serve the policyholder, not each other.
And only by adding value to the policyholder, do we create sustainable value for our shareholders.
I do not think we need to be squeamish about this. The notion that, for instance, it should be absolutely explicit what a wholesale broker earns in the chain does not intrinsically call into question the existence of that broker. It merely recognises that brokers and underwriters all have to justify their existence and earn a rate of return commensurate with the value that they add.
Therefore those brokers and underwriters who advocate absolute, full and plain English disclosure of who gets how much deserve support.
Disclosure is right looked at solely in the context of managing out the potential for conflict of interest in the distribution chain. But it is also essential if we are to tackle the challenge of rationalising our business process.
As an aside, I have always thought it strange (and, more importantly strategically damaging) that under the old 3 year Lloyd's accounting system, syndicates did not have to measure brokerage. Thus they were (at least implicitly) unaware of the true price of the product, and ostensibly, were lacking an essential curiosity as to the economics of delivering it. Measurement of brokerage alone makes our move to annual accounting is desirable.
So we have the need and the means to measure economics through the chain, and to work out, with our trading partners, how to deliver the product to the policyholder in the most economically rational way. And - to repeat - let's be absolutely clear that what we get rewarded for is what we do for the benefit of the policyholder, not for services to each other.
Impeccable free market theory says that enlightened underwriters and brokers will figure this out to the benefit of the policyholder and the detriment of the less enlightened competition. I can't fault that logic, but why wait? Passionate free marketeer that I am, I believe that regulatory intervention is urgently required to short circuit the debate and to prevent the market dislocation that will result from a "two tier" market where some trade on one basis, some on another, and everyone on potentially different bases in different jurisdictions .
I say, out with theory, in with action.
The FSA should change, and change now, their Conduct of Business regime from the current approach of "disclosure on request" to mandatory disclosure. That way, the conflict of interest issue is dealt with, and we have an unyielding spotlight to shine on the economics of our business. Currently the FSA are reluctant to take this step; perhaps, it is said, they will consult on changing their rules at some point in the future. "Give me chastity and contingency, but not yet".
The FSA should not bide their time and "wait and see". They should seize the moment.
Mandatory disclosure is not just about a reaction to Spitzer, important enough though that is. It represents the single most effective way of generating positive change in our industry, change that I know - ironically - the FSA shares our desire to achieve. So we shall continue to argue for it. This is an historic opportunity which the FSA should take. It is consistent with their objectives and would win strong support from all those who passionately want to see real change.
So, achieve full disclosure of reward through the chain and recognise that it is the policyholder who pays, and that reward should follow value. Which brokers add value? Which underwriters add value? They are the ones who will have a long term sustainable future.
After disclosure another significant step in changing behaviour is the LMP slip.
The LMP slip structure is nothing more than a set of headings that demands the supply of information A simple step towards contract certainty because it is documenting upfront the key data about the substance of a transaction. All about behaviour. And at least I can report that the effect of Lloyd's mandating the slip earlier this year has resulted in 90% compliance, short of our 95% target but encouraging nonetheless.
What is less encouraging is that the LMP slip structure took several years to agree - changing behaviour is inherently slow. And only 9% of slips are actually perfect. Don't forget, in manufacturing it is the people - and perhaps only the people - who get it right first time who win.
Still, mandating the slip has clearly had an effect. The LMP team is now publishing more guidance to help organisations to implement effectively. And we are working with XIS to codify the checking that needs to occur, and publishing analysis of rejection rates, so that the process of checking can be streamlined, not least by improving the quality of original submissions. To heave us further on the way, we will also consider over the next couple of months whether public naming and shaming, fining or some other sanctions are required.
And meanwhile, a market group is building on the work done to agree the LMP slip to identify all of the key attributes of contract certainty and the behaviours that will result in it. That effort will drive our crucial work on contract certainty over the next year.
So when people say "Which initiatives should we have as our highest priorities?", you have to start with the initiatives that tackle people, management attention and behaviour. There is nothing very technical about an LMP slip - it is all about having the inclination and the discipline to agree a specified number of things and record them at a specified point in the transaction.
Inclination and discipline.
People, management attention and behaviour
They are the things that matter.
Now, change behaviour successfully and the results of that new behaviour can be recorded by a quill pen if you like. The results will still make a real difference. But technology then gives you the ability to get the most out of behavioural change, and to enforce it.
With this in mind, let me describe a vision of the future that seeks to leverage the power of today's technology. This vision has four key components:
- simplified, harmonised business processes involving the multiple exchange of
- standardised data through
- structured electronic messages organised by
- community platforms which minimise interfacing costs and enforce discipline
Use of the words "standardised" and "electronic" will, I know, cause immediate convulsions of hostility and scepticism and result in some people metaphorically switching off.
They should not. This vision is not an attack on the notion of face to face trading. Far from it. Indeed I would argue that it represents that best chance of preserving face to face trading, by providing the effective audit trail and data capture that minimises the risk generated by and maximises the value from face to face negotiation.
Nor is this vision an attack on individuality or flexibility. Again, I say, far from it. The vision simply recognises that the same creative ideas, bespoke solutions, commercial flexibility and ability to take decisions within an agreed structure are less likely to generate risk and cost than they are where no structure exists. Delivery of this vision can actively preserve the qualities that make this market different and special.
To repeat,
- simplified, harmonised business processes
- standardised data
- structured electronic messages
- community platforms
All can support and sustain this market's ability to develop competitive solutions. But all of which involves extensive collaboration between trading partners to achieve. And none of which should worry us because in our subscription market we have to collaborate all the time. The more effective the collaboration, and, in a subscription market that means the more effective the communication of data, the more successful we will be.
In my simple layman's conception that means having the equivalent of an accepted language, accepted grammar, designated dictionaries, notice boards and libraries, and a common postal system. Few outside the realms of the terminally trendy seriously argue in everyday life that these things are the enemies of individual thought. Nor should anyone so argue here.
Just as language, grammar and so on provide the means for the most glorious examples of individual expression, agreed processes, standardised data, electronic messages and community platforms can provide the infrastructure upon which creative trading can flourish.
So let's explore this vision a little further.
Brokers and underwriters negotiate face to face, on screen, or both, while exchanging data, and recording the progress of their transaction, through a collaborative electronic system or systems that reflect the placement process.
The generic structure of the placement process will have been agreed between broker and underwriter, in order to create the systems that reflect it.
The structure of the data that is exchanged will have been agreed in advance, and its structure and content will conform to international standards that the broker and the underwriter employ in their businesses the world over.
The systems will generate a slip. They will enable, as the broker and underwriter chose, one of the parties, or a third party, to produce a policy. That policy will be based on standard wordings accessed from the wordings libraries of either party, with changes from those wordings tracked and audited electronically. Or, if necessary, a wholly bespoke wording can be created, again in an auditable process. Or the slip can serve as a record of the contract, if sufficiently comprehensive in scope.
Any necessary regulatory, fiscal and commercial checking of the transaction will be able to take place in real time if the checker has controlled, secure access via the systems to the relevant information as it develops.
The placing system or systems will retain the data and the process audit of the transaction, accessible to broker and underwriter; and they will, if necessary, supply the slip and a post placement message for the accounting and settlement of the transaction to a market bureau or other service provider, and any other agreed party to the transaction.
The notification and management of claims will be similarly supported by international standard messages to transmit data and initiate claims management actions. And supported by claims repositories, to store data relevant to a claim (including the slip, for instance) and to enable simultaneous and controlled access where appropriate for the parties to the transaction.
So, in this vision, systems support the human activity of front and back office, to enable brokers and underwriters to enter data once, have real time access to that data, and to have a secure auditable record both of the substance of the transaction and the process that generated it. And businesses will use that data to improve process management.
Systems will interface directly with one another or through a hub. On the one hand trading partners will recognise that different parties and combinations of parties own and invest in systems that create and use data at different stages of the business process. On the other they will also recognise that the price of multiple interfaces is too high, and will use a community hub to perform that interface function. Or they will use the same collaborative systems.
They will not all insist on using their own systems all of the time, and therefore on having to interface individually with the systems of all of their partners. Such an insistence would be expensive. It would also ignore one of the other major benefits of community platforms - that common standards are easier to enforce using common platforms.
And it is worth noting that under this vision it does not automatically have to be the case that each staging post for data, and each function that does something with the data, is owned by the same entity. The somewhat topical analogy with stock exchanges, where trading, clearing and settlement can be distinct operations or not, is a relevant one.
That, then, is the vision. The major systems initiatives in Lloyd's and London are consistent with this vision. To repeat none of them are panaceas. All of them rely on changes to underlying behaviour and the devotion of management attention.
The implementation of CLASS and electronic claims repositories facilitate a harmonised claims process through the use of structured electronic messages (CLASS) and a community platform (the repositories). The implementation targets for how much claims business will be transacted using the new infrastructure in 2006 are currently under review, but will be ambitious.
The Accounting and Settlement project is all about sending international standard electronic messages, so that the London Market can deal with its trading partners in the same way that other markets do. Subject to final agreement on the design and hence final cost for the projected work, we must begin the implementation as soon as possible, if we are to complete by the end of 2006. A huge amount of work has been done to get to this point; I would urge any organisations who are unsure about the consequences of this project and their participation in it to act now. Again, the implementation plan should set a demanding target for 2006 and we cannot afford to have laggards in that process.
Kinnect is certainly about a harmonised business process. Over the last year a major achievement of Kinnect, working with Marsh, Willis and its underwriting customers, has been to agree the structure of the placing process. It is a structure incidentally that it is entirely consistent with the LMP work. Getting that agreement has not been straightforward. It has involved significant time and expense for the project. But the agreement is critically important - behaviour comes before technology, technology then reflects, enforces and catalyses the behaviour.
Kinnect is also, certainly, about the sending of standardised data and structured electronic messages. It is not about a standardised insurance product, it is about extracting the maximum benefits from process and data standardisation to achieve a more efficient, lower risk placement of any London Market product. A placement, for the avoidance of doubt, that can be negotiated face to face, electronically, or set to music if that is what the trading partners choose.
Kinnect has the makings of a community platform, having the strong support, of two of our major brokers and a group of underwriters representing a significant proportion of the capacity of the Lloyd's Market. As a community platform with a critical mass of market support, Kinnect can play a major role to minimise the cost of multiple interfacing that otherwise threatens to make individual businesses' system strategies so challenging and expensive.
By the end of this year, Kinnect must have a product that encompasses the entire lifecycle of a risk, from original placement through endorsement to renewal. It must also have demonstrated that it can be expanded beyond the Property market.
Delivering these milestones will be a major step forward for Kinnect, and I believe the management will deliver them, working with their newly constituted Board. The project has been through its fair share of ups and downs, and excursions down what have turned out to be blind alleys. As a result everyone associated with the project recognises that progress has been slower and more expensive than anyone would have liked. But the task has been, to say the least, a difficult one, and the last year has seen a lot of underlying progress.
Many people have been and are cynical about Kinnect, not least on the basis of failure of past community platforms. Their cynicism has not been dimmed by some of the ups and downs to which I have referred. Luckily a number of organisations have been stalwart in their belief in the strategic objectives of Kinnect. Standing here today, the achievement of a placing process characterised by single data entry and an auditable and secure record of the substance and process of the transaction, looks like an ambition about which we cannot afford to be cynical. Healthy scepticism is essential but cynicism is an easy option. Cynics are fond of predicting failure. But left entirely to their own devices cynics are often precisely the people who fail.
The creation of a platform like Kinnect should be supported, actively, by those who wish Lloyd's to continue to succeed as a market. It can play a significant part in delivering the full benefits of the other initiatives we have been discussing, especially by delivering an electronic version of the LMP slip and the collaborative environment in which contract certainty (checking, wordings agreement) can be achieved.
Each of the initiatives I have discussed has a significant part to play. None of them represent the magic wand or silver bullet so beloved of the optimistic. I'm afraid all of them have to work.
Let's come back to my point of departure.
Improving our operational performance, our business process, is not a luxury item. The continued existence of our very bread and butter in this market depends on it.
Failure to address the cost, complexity and risk of our business process will lead to the failure of our London Market.
Now, I am sure we would all echo the words of Queen Victoria that "the prospect of failure does not interest us".
So, success means investing in people, in focussed management attention, and in changing behaviour.
It means investment by all of us - by individual businesses, by the market collectively. Yes, and the FSA could significantly leverage the impact of that investment by coming off the fence and changing the rules of the game on disclosure.
And finally, it does mean investment in technology, in order to get the full and lasting benefits of all that investment in people, attention and behaviour.
The way forward to improve our operational performance is not an easy one; it has already tried the patience of many to the limit. But I believe the right solutions are being worked on and they do fit together into a vision for the future. The challenge for all of us is to make it happen, to suspend doubt and competitive reservations and make it work.
And that is a challenge we simply must meet, if EC3 is to remain the unique concentration of insurance talent that it is today, a genuine market place rather than a theme park, the streets peopled by the human capital of the future rather than actors impersonating the protagonists of the past.
