London remains a centre of worldwide importance for reinsurance even though much of the ultimate control and capital is elsewhere. Lee Coppack discusses the implications.

With the sale of Eagle Star Re first to the Zurich Group and then by Zurich to ERC, the last UK owned professional reinsurance company of significance disappeared into the fold of a global group. All the world's largest reinsurance organisations have operations in the London market - but none of them is British. Subsidiaries and affiliates of foreign (re)insurance groups, predominantly from North America, dominate the London company market.

Yet, such is the nature of the global movement of capital today and the sweeping extent of changes in the reinsurance world that the passing of a UK professional reinsurance industry was little remarked. The location of capital, at least while a business is thriving, has become almost irrelevant. An Australian insurance company may cede treaties to a reinsurer whose capital is in the United States or Paris, whose underwriting is in London and processing in Ireland. It demonstrates that the new company market group name - International Underwriting Association (IUA) - is an appropriate one.

Market size
Estimating of the size of the London company reinsurance market is difficult as an increasing number of companies from other EU countries write London market business directly or through a branch office, but historic figures give us an indication of trends.

Swiss Re in its late 1998 edition of sigma on consolidation in the global reinsurance market shows the world's non-life reinsurance premiums rose steadily from 1990 to 1995 from where they have fallen to $103 billion in 1997.

The company market association LIRMA, which has been absorbed into the IUA, had for more than 10 years collected reinsurance statistics from its members. On the basis of premiums handled by the London Processing Centre, it estimated that in 1996, the London market as a whole wrote approximately $9.6 billion in treaty reinsurance gross premiums, of which LIRMA members were responsible for approximately $5.5 billion.

Using figures from the Association of British Insurers (ABI), Prof. Robert Carter and Peter Falush in the 1998 edition of their annual report, the London Insurance Market, put the figure at £3.1 billion or $5.0 billion gross for 1996 for non-marine treaty business, which would move closer to the LIRMA figure if marine and facultative business were added.

The Carter-Falush study gives the following figures for UK insurers' non-marine treaty business:
(£ billion)
1988: £2.159 1991: £3.177 1994: £3.175
1989: £2.276 1992: £3.503 1995: £3.265
1990: £2.843 1993: £2.983 1996: £3.135

The fluctuations in premiums result from a number of factors. For instance, Carter and Falush say the devaluation of the pound after the UK left the European exchange rate mechanism in September 1992 increased earnings in sterling, where its appreciation since 1995 had the opposite effect. Between 1995 and 1996, London appears to have moved downward roughly in line with the global trend as rates have softened.

One figure, however, stands out: when reinsurance rates worldwide hardened sharply following Hurricane Andrew in 1992, London's premiums fell. The market lost ground as a series of member companies, including some major players, either would not or could not continue in the wake of their losses, especially from the London market spiral of excess of loss business (LMX).

LIRMA statistics reveal the extent of the LMX problem. Thirteen member companies reported the following loss ratio on non-proportional marine business by the end of 1996: 577% for 1987; 1035% for 1988; 913% for 1989 and 354% for 1990 - and they were still underwriting. If the results of the companies in run-off, particularly insolvent, had been included, the figures could have been even worse.

Figures for marine business by members of the Institute of London Underwriters (ILU), which include both direct and reinsurance, show that the marine market peaked in 1993 and fell in 1994 and 1995.

That by 1996, the market had recovered to such an extent against a background of softening rates and adverse exchange rate development is impressive. A study by Duff & Phelps Credit Rating in September 1998 gave as the following sources of competitive advantage for the London market:
• highly skilled people
• proximity to a major financial centre
• compact geographical layout
• improved capitalisation and management following the fall out of the early 1990s
• the subscription market, though this is under some threat.
Standard & Poor's comments in its Global Reinsurance Highlights 1998: “The London market, which lost much competitive ground to Bermuda, continental Europe and the US up to the mid-1990s, is alive and well. Its importance as a major centre of excellence for insurance and reinsurance know-how would seem assured, albeit financed by capital from sources much more dispersed than in the past.”

Changes
There has been a shifting kaleidoscope of organisations and people in London as a reflection both of changes in the global financial services industry and in London itself. In the last few months alone, we have seen:
• GE Capital's acquisition of Eagle Star Re through its reinsurance subsidiary ERC Frankona.
• ERC Frankona's intended fusion of its London market operations, Eagle Star Re, Kemper (Re (UK) and the non-life operation of ERC Frankona (UK) Re into a single unit, subject to regulatory approval. IUA chairman, Tim Carroll, is the proposed ceo of the new unit.
• The move of the Zurich Reinsurance (London) reinsurance management to Rhine Reinsurance Company Ltd, controlled ultimately by Kohlberg Kravis Roberts & Co (KKR), which also now owns Willis Corroon.
• The closure of Liberty Re, Liberty Mutuals' £250 million London market operation less than two years after its launch.
• The planned relaunch of excess of loss specialist Benfield Reinsurance Company as BRIT Insurance to write most classes of non-proportional catastrophe reinsurance and financial risk insurance, both direct and as reinsurance.
• The departure, at least temporarily, of familiar figures such as John Engeström, the Liberty Re chief executive; Stephen Riley from Swiss Re (UK); Alan Howells from Eagle Star Re; Mike Wacek from St Paul Re and Lisbeth Sarkosi from Sirius UK.

Shareholders
A market place built largely on intangibles such as underwriting skill and personal contacts may be more fragile than one which has the more fixed anchor of a local capital base. With head offices now in New York, Chicago, Paris or Overland Park, Kansas, companies will not face the same political pressures to support London as UK companies might have done. On the contrary, they may feel that leaving behind loss making ventures is what they must do in the name of shareholder value.

Few are likely to be as precipitate as Liberty Mutual which put its London reinsurance company into run-off after only one full year of trading, but if premium rates are as uneconomic as underwriters state, then the seeds of losses are already germinating. The halcyon days of the mid-1980s were followed by an unprecedented series of losses the reasons for which do not need repeating.

According to Philip Singer, an insolvency practitioner with PricewaterhouseCoopers in London, there are approximately 180 companies currently in run-off, solvent and insolvent, in the London market with liabilities estimated at £25 billion, not including the Lloyd's run-off vehicle Equitas. He also points out that perhaps 38 of those companies went into run-off as solvent liquidations and became insolvent, sometimes many years later.

In Mr Singer's view “many more companies worldwide will go into run off. There are simply too many companies chasing too little business at too low a price.” He argues that it makes more sense to leave early than to stay on in an adverse market so long that the company becomes financially weakened but that it is critical to have an orderly plan for running off the business.

“Retiring in good order so that the shareholders may in due time get a return of their capital seems to me to make very much more sense than leaving things too late,” Mr Singer told the international reinsurance congress in Bermuda in October 1998. “But any company going into run-off must understand that life for them has changed fundamentally in a number of ways, and it is essential that they should have a strategy, a strategy for a success run-off which recognises the realities and does not simply assume because the weather looks fine today, it will not deteriorate tomorrow.”

The London market - companies and Lloyd's as well - is substantially different in composition and structure than it was five years ago. The players are larger and stronger. It has made an impressive recovery from near mortal blows.

Concern by analysts about the future of the London market often turns to technology. Thus, Duff & Phelps states: “Probably the biggest negative for the London market is the lack of progress in harnessing new technology to improve client service and speed up transaction time.” From other articles in this edition, it seems that London is well aware of the technology issue and is making considerable progress in dealing with it.

The question of what would happen if pessimistic projections are correct and significant losses do occur, probably worries the market leaders but is much less openly aired. London must have its facilities in place and working well, so those global players who today find it an attractive and effective market place will continue to do so if times get hard.

Lee Coppack is co-editor of Global Reinsurance. She has been an insurance writer and analyst for 20 years. E-mail: leecoppack@compuserve.com