Good morning everyone. It is great to be back in Los Angeles – especially at the beginning of Brit Week. It is difficult to think of an institution which is as distinctively British as Lloyd’s, but, at the same time, which has such a strong relationship with Los Angeles and, more widely, the state of California. So I am delighted to help you launch the programme of events.
I have been asked to cover three themes around the theme of the global economy this morning:
• first, I will briefly talk about Lloyd’s long relationship with California – a great example of the global economy in operation;
• second, I will give a view from London and from the insurance market about the impact of the current credit crunch;
• third, in the context of increasing globalisation, I will offer some thoughts on how we should respond to the rise of offshore and emerging markets.
Lloyd’s in California
I will start, then, with Lloyd’s in California.
Brit Week 2008 celebrates 50 years of Britain in Los Angeles. But I am pleased to say that Lloyd’s has been covering risks in the state for more than double that time. My last visit to California was for centenary of the San Francisco Earthquake, a disaster where Lloyd’s played a key role in helping the city to rebuild and recover. Today, Lloyd’s still provides cover for the State of California’s earthquake risk, insuring thousands of Californian policyholders and reinsuring the California Earthquake Authority since its inception in 1996.
Here in Los Angeles, Hollywood is another sector where Lloyd’s and California have enjoyed a long relationship through insurance of blockbusters, film stars and everything in between. Going back almost a century, it is perhaps Betty Grable’s “million dollar” legs which Lloyd’s is best known for insuring.
But what kind of risks do we cover today? Lloyd’s continues to provide high limit disability cover for major figures in the California entertainment industry. Today, instead of Betty Grable’s legs it is Ugly Betty star America Ferrera’s smile which is insured at Lloyd’s for ten million dollars . In addition, Lloyd’s covers major sports figures in American football, baseball and basketball – and this includes every major baseball team in California. Major music studios and record companies take out policies at Lloyd’s to protect the financial interests they have in their artists – as they often pay out their fees upfront. Lloyd’s also provides policies to cover events being cancelled, and has covered the Oscars in this way, for example.
As for the film industry itself – these days, as you might expect, millions of dollars are at stake. Aside from the danger of injury of film stars themselves, the insurance package can cover a complex range of risks. These include business interruption cover for the cast; errors and omissions policies to protect production companies from lawsuits; general production insurance; and completion bonds which guarantee that a film will be finished. However, the single most common and costly cause of claims made by producers today is delay in filming schedules. Losing one day on even a low budget film with a 4 million dollar budget would see producers losing up to 80 thousand dollars so you can multiply that by 25 for a 100 million blockbuster. Incidentally, I understand that Lloyd’s is also involved in the provision of strike insurance in the event that your actors pull the same trick as your writers!
According to Fireman’s Fund, a specialist in the field with whom Lloyd’s works closely, the riskiest movie to insure in 2007 was ‘Into the Wild’ . This was the Sean Penn production about a young man who abandons a normal lifestyle to explore the Alaskan wilderness.
Several scenes were shot on cliffs and rocky ledges in the mountains and on rapids in places like Alaska, hazardous not only for actors, but for the crew too. Safety, medical access and protection of equipment were all key issues and the film also uses bears in several scenes, always a risk for cast and crew, even when using specially trained animals.
Of course, Lloyd’s involvement with the Los Angeles and Californian economy today goes wider than the entertainment sector. 93 per cent of Dow Jones listed companies and 81 per cent of Fortune 500 companies in the US have policies at Lloyd’s .
As a result, the total amount of business Lloyd’s underwrote in 2007 exceeded 1 billion dollars , and we ranked as the second largest surplus lines insurer in the state. That’s quite a relationship. And it means that we do more business in the state of California than in the entire nation of France or Germany.
The challenge of the global credit crunch
Moving on to more global issues, I have been asked to give a view from London on the current credit crunch.
Who would have thought that troubles in a relatively small and obscure sector of the US mortgage market would lead to the collapse of one of Wall Street’s most powerful banks, and the first run on a UK bank for 150 years?
The numbers behind it all are staggering. Between 1994 and 2005, the size of the sub-prime mortgage market grew from 25 billion to 665 billion dollars . Then, just a few weeks ago, the International Monetary Fund warned that potential losses from the credit crunch could reach 1 trillion US dollars as losses spread to other sectors.
What can businesses learn from events so far?
US broadcaster Robert Sarnoff once wryly said, “Finance is the art of passing currency from hand to hand until it finally disappears.” The first lesson to take away must be that if something appears too good to be true, then it probably is. Just to be clear, I have no doubt that financial innovation can and should be a force for good – not least because it allows us to spread risk and should result in greater choice for the customer. But the test must be whether the resulting products are transparent and easily understood. This is a test that we need to apply on many levels – including in our investment decisions and as sellers of products and services ourselves.
Second, the current situation serves as a reminder to review our processes and systems for dealing with liability risk. By the end of last year, 32 class action lawsuits had already been filed by investors against mortgage lenders, Wall Street finance houses, and others .
New research which we will publish next month will highlight that boards may be divided about the ultimate impact of the credit crunch on the wider economy. However, most are concerned about the liabilities that could emerge – both for their business and their directors. As the issues unravel, we can be sure that more lawsuits more will be filed, and the list of possible targets will widen. It is therefore vital that boards carefully consider questions such as what culture and processes are in place to help identify potential liabilities; what education is needed to improve staff awareness of the issues; and how the company can get most effectively allocate resources in the context of rising litigation costs.
I should say a few words specifically about the impact on the insurance industry. We do not yet know what the ultimate outcome will be but. But, at Lloyd’s, our cautious approach to credit risk has protected us from significant sub-prime related losses to date and our exposure to equity markets is small. We certainly expect claims – most likely on directors and officers, professional indemnity and crime policies. But what we can say with confidence is that having survived the turmoil at the beginning of the decade with Enron and the dotcom crash, the Lloyd’s market now underwrites a fraction of the cover that it used to in this field.
Finally, amidst the inevitable calls for reform, I believe that we should not indulge the craving for knee-jerk reactions. There will undoubtedly be a need for adjustments to supervision, systems and guidelines. As we consider these issues, we need to formulate responses at an international level, which work on a global scale. Some suggest that our relatively open, integrated markets are the root of the current problems. In fact, I would argue the opposite – that we need a better harmonised, more integrated infrastructure with closer international co-operation. What’s more, business itself has an important role to play. Change and reform should only happen after careful thought and proper consultation, including with industry.
I have been asked a lot since the crisis developed, what I think the future holds in store for London as a financial centre. My answer on that is clear. London’s strengths as a global financial centre are as impressive as they have always been. Its infrastructure is centred around a huge cluster of talent, an open and international outlook, and a remarkable breadth and depth of financial expertise.
London is rightly viewed by many businesses in California not just as a gateway to the UK, but a gateway to the whole of Europe – which is the largest market of consumers in the world.
But perhaps most encouragingly for the future, London is well placed to respond to the opportunities which are emerging in developing markets such as the Middle East and Asia. And it is to the opportunities and challenges of these emerging markets that I will now turn for my final remarks.
The challenge of rising global competition
At Lloyd’s, we are aware that the financial services sector in particular is becoming more competitive. We can see two clear trends.
First, the rapid development of the so-called BRIC economies – Brazil, Russia, India and China. The World Bank reported last week that China has now overtaken Germany and Japan to become the world’s second-largest economy after the US . How long before it takes the crown?
Second, governments increasingly understand the important role which financial services can play as a catalyst for economic expansion. They are now developing attractive financial infrastructures – even in hitherto closed markets, and sometimes with zero tax rates.
But there is little point in sitting back and complaining about ‘unfair’ competition.
Rather, we need to ask ourselves whether we are paying enough attention to developing our relationships with these markets.
There is increasing evidence that if we don’t take advantage of the investment opportunities they offer, there are plenty of others who will. Last year, for the fifteenth successive year, China was the top emerging market in attracting foreign investment. But over those 15 years, the amount of investment from the US in China and the original EU states has actually dropped while investment between Asian countries is on the increase. In India, four of the top ten investing countries are now East Asian countries . This is a trend which we can expect to continue.
Moreover, if we are forward-looking businesses, we will not just be putting capital into these markets. We will be looking at them as markets for our products too in the context of an increasingly wealthy customer base.
At Lloyd’s, emerging markets are very much top of our agenda. Last week, Lloyd’s became the first reinsurer to be admitted in Brazil under new legislation which has opened up the market there. And, a year ago, we launched Lloyd’s China in Shanghai.
China’s and Brazil’s insurance and reinsurance markets are thriving and this will result in growing demand for specialist insurance products. Now, the process of starting an operation in Shanghai took us many years. It was not easy. Even now, we are pragmatic about the amount of business we will see there in the short-term, but we are in no doubt as to the strategic importance of this step for the future. Opportunities will take a while to emerge. But to succeed in the future, boards have got to take a long-term view and start the work now.
I would also like to make one final remark, which concerns the relationship between the US and the UK. Last month, the City of London Corporation produced its latest annual index which ranked London as the world’s top financial centre – closely followed by New York. Of course, the whole question of which city comes out on top something of a red herring. We are not sworn enemies and this is not Man United against Chelsea. Or, if it is, there are a lot of international companies playing for both teams.
Let’s be clear about this. Success in the US will always be helped by a healthy UK and vice versa, as initiatives like Brit Week highlight. Today, the UK is the largest overseas investor in the State, while London estimates that almost a third of its investment comes from California .
In such an environment, we must resist protectionism. Financial services, in particular, depends upon freedom to trade across borders. Yet here in the US, the outdated regulations for reinsurance continue to be a major obstacle to free Transatlantic trade. For those of you who are not familiar with these, they place unfair collateral requirements upon overseas reinsurers – irrespective of their financial strength – which do not apply to US companies. In the end, this merely stifles competition and drives up the cost of insurance for the consumer. However, despite past promises by the National Association of Insurance Commissioners to fix this inequality, we have seen no progress.
We therefore welcome the US Treasury’s blueprint for financial services which recognises that this issue needs to be addressed as a priority. There have also been encouraging signs amongst some state regulators such as New York and Florida who are driving through change at state level. Given California’s international outlook we would be encouraged to see its leadership on this issue too.
More widely, however – and whatever industry you are part of – we believe that the case for removing the trade barriers between the US and EU is very easy to make. By working together more closely with mutually compatible standards, we can reduce the cost of doing business together and help our vitally important relationship to flourish.
In addition, as we face up to common challenges like climate change, it is vital that the State of California, the UK and Europe work together to find common solutions and develop new business opportunities. As you might expect, climate change is a key issue for the insurance industry, and we believe that urgent international co-operation is critical if we are to tackle the problem effectively. At Lloyd’s, we are therefore encouraged to see California’s continued leadership on climate change.
Conclusion
In conclusion, ladies and gentlemen, the Californian economy has changed beyond recognition since Lloyd’s first started providing cover to Californian businesses in the early 1900s.
But from Betty Grable’s legs to Ugly Betty’s smile, we are proud of our association with you and we remain ready and willing to help you take on and manage your risk.
At Lloyd’s, we believe that, in today’s global business environment, it is critical for key partners like California and the UK to work even more closely together.
Right now, because of the credit crunch, the rise of emerging markets, and issues like climate change, businesses on both sides of the Atlantic face challenges right now like never before. It is in all of our interests to face these challenges together.
The good news is that there are huge new opportunities balancing these challenges. But we will only benefit from them if we develop an infrastructure which supports free trade. It needs a mindset which views globalisation is an opportunity, rather than a threat, and where there is no room for protectionism.
Thank you for listening. I understand that some of you have questions and I would like to take as many as I can.
