Lloyd's market participants have been pushing hard after emerging in "reasonable shape" from the year of the catastrophe in 2005, explains Lindsey Rogerson

Lloyd's of London has come under concerted and sustained attack in recent years. Variously finding itself accused of being either a dinosaur on the brink of extinction or dismissed as an arrogant overpriced marketplace labouring under the misconception that its superior brand will keep business flowing in regardless of whether or not it bothers to update its systems.

Indeed Alex Letts, chief executive of RI3K, the electronic trading service provider, speaking at the Insurance Institute of London recently said that "no brand was bullet proof" and that Lloyd's would have to embrace change fast if it was to avoid being supplanted by younger, more technologically advantaged, centres.

But is such harsh criticism justified? Lloyd's came through last year's hurricane season in reasonable shape, according to analyst Merryleas Hyde at Credit Suisse. In a recent analysts' note, he said, "The Lloyd's market as a whole performed well, reporting only a small loss of £103m and a combined ratio of 111.8% following hurricane losses of £3.3bn. There was negligible impact on the Central Fund and no increase in the contribution rate to the fund for 2006. Central assets increased by 6% from £1.7bn to £1.8bn, and the solvency ratio increased from 300% to 379%."

In fact, many Lloyd's companies have been remarkably proactive in the last six months. Preben Prebensen, chief executive of Wellington, believes last year's hurricanes gave his company a wake up call. He said, "Going forward we have responded by adjusting our risk profile, positioning us to benefit from higher rates with less risk to extreme events. We have been encouraged by trading conditions so far this year and we expect the market to harden further."

Wellington is far from alone. As predicted in November GR, Lloyd's syndicates have been raising capital, reorganising debt, and some have begun cutting dividend payments in order to ensure they have the money available to write business.

What no one can dispute is that the Lloyd's name is synonymous in all corners of the globe with an ability to write the most difficult of risks. This should mean the market is well-positioned to benefit from any flight to quality in the wake of last year's hurricanes in the Gulf of Mexico. Lloyd's itself is not resting on its laurels, waiting for business to walk in through its door. Hiscox and Amlin set up new ventures in Bermuda to take advantage of post-hurricane renewals. However, not all market watchers are convinced that Bermuda-based offshoots are necessarily business enhancing.

Merryleas Hyde has concerns. He explains, "If losses are incurred in one subsidiary, it is not possible to move them around the group to offset losses in another overseas subsidiary. This meant that the losses incurred in Catlin Bermuda in 2005 could not be offset against profitable underwriting in the Catlin Syndicate Direct business and Catlin UK.

"We believe that this is likely to be a long-term risk. Companies will want to put their most profitable business through the Bermudian operation, but this has often the most volatile classes of business which can produce either strong profits or heavy losses. This has implications for both Amlin Bermuda and Hiscox Bermuda, which will be writing reinsurance business from 2006 that is likely to be volatile."

However, Bermuda is not the only location attracting Lloyd's attention. The market has also been wooing new sources of business in emerging markets. Just last month it opened a reinsurance office in Shanghai. Indeed, Lloyd's underwriters now view the Chinese market as offering the same level of opportunities as the US, according to the most recent Acritas survey (see figure 1). In fact, viewed over a five-year timeframe, 60% of underwriters said they believed China would prove the biggest source of new specialist insurance opportunities.

Kiln raised £72m last November, which will be used to boost underwriting capacity. Thus far the move seems to have paid off as announcing its full year results for 2005, Kiln said that so far in 2006 it had seen rates rise at renewal by an average of 12.5%. At the results conference Edward Creasy, chief executive officer, said, "We believe that we are in great shape to take advantage of the underwriting environment that 2006 offers us."

Investors would appear to agree with him, as a massive 96% of the post-Katrina rights issue was taken up by existing shareholders. Amlin's decision to refinance £230m of its debt has found similar favour as its debt issue was oversubscribed.

Hyde also raised concerns over Lloyd's electronic shortcomings. Lloyd's announced at the end of January that it was walking away from its £70m electronic trading platform - Kinnect. However, not everyone believes that the collapse of Kinnect should be seen as Lloyd's turning its back on electronic processing. Last month, broker Benfield announced the successful testing of its electronic data transfer joint venture with six leading Lloyd's insurers (Amlin, Beazley, Catlin, Hiscox, Kiln and Wellington) - evidence that Lloyd's is clearly aware that its technology must catch up with that on offer at other reinsurance centres.

However Nick Martin, an analyst on the Hiscox Insurance Portfolio, which currently has around 18% of its net assets invested in Lloyd's companies, believes that while rates hold up Lloyd's technological shortcomings - perceived or otherwise - are not an issue.

He said, "The way we think about it is that Lloyd's is a much higher cost structure than Bermuda, in terms of everything really - office space, cost of doing business and commissions that are paid to London brokers. But because the markets have been quite strong we have not held that against the Lloyd's companies as they are actually more geared into the hard insurance market than anywhere else."

"Because the Lloyd's capital requirement is nowhere near as high as it would be if they were just a standalone company in Bermuda, this means the expenses that you have (in Lloyd's) are more than outweighed by the more favourable capital position that you have within Lloyd's. But that argument will no longer stack up when we have a soft market, and Lloyd's would get a black mark in the box (for its electronic system) if market conditions come off."

- Lindsey Rogerson is a freelance journalist.


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