High levels of terrorist activity on the UK mainland in the early 1990s led to a wholesale withdrawal of terrorism coverage for property business, and the formation of Pool Re.
In the early 1990s, terrorist activity by the Irish Republican Army (IRA) was at its height. The UK mainland, in particular, had never experienced such a relentless onslaught, culminating in the St Mary Axe bomb in April 1992. The device destroyed the historic Baltic Exchange, and caused £350m of damage in the heart of London's financial district.
Fortunately, the attack happened on a Friday evening, so damage was limited to physical property, with no loss of life. Even so, the scale was unprecedented and with no cease-fire on the horizon, the potential for another attack at the same level was high. So high, in fact, that just one year later, an even bigger blast just two blocks away from the St Mary Axe site caused even more damage, resulting in £650m in losses. With two such large events in its claims files, and no signs of the terrorist activity abating, the re/insurance community decided that terrorism was no longer an insurable risk.
In conjunction with the British government, the re/insurance industry came up with a solution – Pool Reinsurance Co Ltd. Based around the Reinsurance (Acts of Terrorism) Act 1993, Pool Re was established as a mutual insurance company, set up as any other in the UK. However, under its charter it may only write terrorism-related reinsurance for commercial property, and if its assets become exhausted by losses, it can turn to the UK government which acts as the reinsurer of last resort, in return for a reinsurance premium.
Pool Re's coverage is limited to commercial property, and is not a mandatory insurance. Coverage includes property damage and consequential loss, but specifically excludes liability, aviation, employers' liability and accidental death.
Primary insurers are responsible for a £100,000 deductible per head of coverage, which may include buildings, contents, business interruption and the suchlike, with Pool Re taking the excess up to the policy limits. Membership of Pool Re is open to any insurers offering commercial property coverage in the UK, irrespective of their domicile, but membership is not compulsory.
According to figures published by consultant Tillinghast-Towers Perrin, Pool Re had 213 members at the end of 1999, including 32 Lloyd's syndicates, 104 insurance companies incorporated in the UK and 77 insurance companies incorporate in other EU countries, the US, Australia, the Isle of Man and Guernsey.
Since setting up in 1993, Pool Re has responded to two further major terrorist events: the South Quays bomb in February 1996, which resulted in £150m losses, and a major device in central Manchester which caused £400m-worth of devastation in June 1996. Since then, IRA activity has abated and no additional claims have occurred.
As Pool Re has built up its reserves over time, so the premiums have come down. In 1995, it introduced a policy of discounted premiums, with the 40% discount being callable from all members of the pool should a loss occur. Despite the 1996 losses, Pool Re was able to substantially reduce rates in 1999, a reflection of the Northern Ireland Peace Process which dramatically reduced the risk of major terrorist attacks on the UK mainland.
As the commercial insurance market became more comfortable with the terrorism exposures in England, Scotland and Wales – Northern Ireland has always been excluded from the arena – alternative products to the Pool Re offering started emerging. Hiscox, long noted for its political risk specialty, was particularly active in the market, and in September 1998 led an £18.5bn exposure for more than 70 UK universities, through the UK Higher Education Section Mutual, UMALT. Led through its Lloyd's operation, syndicate 33, Hiscox took a 50% line on the placement, broked by Leumi Insurance Services. At the time, UMALT representative Susan Wilkinson commented, “Major factors influencing the win were the competitive price offered together with the comprehensive experience and services Hiscox and Leumi are able to provide. The Hiscox wording, for example, has been specially developed using plain English which is essential. It means that there is complete clarity for all parties involved – vital for a client which represents a large number of institutions, currently 79, where the spread included the UK's top ten universities.”
The following year, Hiscox increased its UK terrorism capacity by 15%, taking it to £115m for 1999. By this time, rate cuts in the insurance market had led other commercial terrorism cover providers to exit the business, and Hiscox aimed to provide a viable alternative to Pool Re, which continued to stipulate that every property belonging to the policyholder was covered, regardless of location.
Claims against Pool Re are paid through a series of internal and external resources, according to Tillinghast-Towers Perrin. These operate in a series of layers:
In return, Pool Re must pay a premium to the UK government for the final reinsurance cover once its surplus exceeds £1bn. The premium level will be determined by the greater of either 10% of the net premiums, plus compound interest, that Pool Re has received, or the sum of the losses, plus compound interest, the government has paid to Pool Re. So far, this mechanism has not been triggered.
A combination of commercial competition, rate reductions and growing surplus lowered Pool Re's premiums to just £39m in 2000. At that point, the surplus reached around £665m, and with the perceived lowering of the terrorism threat in the UK, there were suggestions either that the pool should return assets to its members, or alternatively that the British government should take the money. At the moment – and probably sensibly under the current environment – the assets are staying where they are.
With Washington, DC and the re/insurance industry currently considering creating a terrorism pool for US terrorism exposures, Pool Re shows that such a mechanism can provide a viable alternative to either the traditional market or a fully government-backed scheme. Whether the scale of losses experienced in the US in early September is one which can lead to such a scheme working successfully, though, is another question. The US debate continues.