Do we have an Insurance Crisis in our Industry?
by Louis Christopher
Based on discussions with a number of leaders in the industry, I have some real concerns that Professional Indemnity (PI), other Director's Insurance and General Business insurance premiums have risen to the point whereby:
- Advisers might be forced to leave the industry due to the heavy premiums
- Some advisers and fund managers might be trading without proper cover.
It seems that Covid19 has already aggravated what was a precarious situation for the industry to begin with.
So why is this happening? There are many reasons. Lets cover them off:
An effective oligopoly
It may not surprise you to hear it is a supply side issue. While there are insurers all over the world, the re-insurers (those organisations used by insurers to diversify their claims risk) are small in number and tend to be run out of the UK. Lloyds of London being the single largest re-insurer.
Low rates of return on PI Cover
For a number of years (the 80s and the 90s) professional indemnity policies ran on a small margin. And it got to the point where insurers started to walk away from the sector, particularly following the points raised below.
PI cover smashed following the Grenfell Towers disaster
The construction sector has been a source of ever-increasing liabilities for insurers, both in terms of the number and value of claims. The construction sector is also one of the largest sectors requiring PI cover.
On that front, the construction industry is still reeling from the Grenfell Tower tragedy and the continuing uncertainty about the use of combustible cladding in past projects. This of course became a worldwide issue. As a result, re-insurers have had trouble spreading their risk in the construction space. So they responded by lifting premiums in every sector including financial services.
Increased Financial Services Compensation and regulation
Worldwide there has been increasing regulation and enforcement of that regulation in the financial services sector, particularly when it comes to financial advice. We know very much over the past 15 years how ASIC have enforced the laws in this country. Of course, many groups have also shot themselves in the foot by not acting in the best interests of their investor clients. Once again, these incidents gave cause for insurers to lift premiums to better reflect the increased claim risk.
The Lloyd's Review
At the end of 2018 Lloyd's of London (the worlds largest Re-insurer) conducted a review of its worst performing lines of business. Non-US PI Cover was identified as one of the worst, with claims payouts substantially exceeding premium income. It was reported that in 2017, Lloyd’s syndicates incurred over £100m more in claims liabilities than they received in premiums for non-US architects, engineers and construction risks.
Lloyds reacted with several measures designed to compel improvements in performance, including requiring its insurers to submit plans to ensure a swift return towards greater margins on pure underwriting and so also profitability. For many insurers this meant the end of their presence in the market or substantially reduced capacity.
The global reach of COVID-19 may have had more significant impact on the reinsurance market as countries around the world face similar accumulations of risk and impacts upon their economies, making it harder to find opportunities to spread localised risks.
So what can be done about it?
There is no silver bullet in this. Ultimately premiums will rise to the point where other players re-enter the PI market and create competition. But that could take some years. In the meantime the Australian financial services sector is going to be left reeling and we suspect it will mean a number of fund managers and advisers may be forced to shut down.
Is there anything the Federal Government could do? Perhaps ASIC?
Though it is hard to see ASIC providing any lenience to those who quietly trade without PI cover in breach of their licence obligations, perhaps ASIC could consider allowing such companies more time to get insurance if such organisations have been upfront with them.
The Government could also consider putting together a government owned co-operative, servicing the sector in the name of investors. After all, it is going to be end investors who will suffer as a result of a further contraction in the financial adviser space.
Another option has also recently sprung up. A regional mutual trust/Cooperative pool is one option perhaps recently suggested by Insurer, AMIR.
"Asia Mideast Insurance and Reinsurance (AMIR) CEO Adel Dawood says it’s expected the proposal will generate significant interest from brokers who have professional indemnity business they cannot place and from underwriting agencies writing PI risks, where many have had binders restricted or withdrawn."
From our perspective as a researcher of fund managers, we will be shortly asking some pointed questions to rated managers on this front as we have increasing concerns (but no definitive proof as yet) that there maybe a small fringe element trading without PI cover.
At the very least, rampant premium increases will have ramification on fund manager costs which may well feed through to rising ICRs. If so, that is a big negative for the competitiveness of the sector on the fee front.
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