Lloyd’s remains the obvious first choice for Bermuda players looking to build out their operations internationally. Bermuda Re asks whether London’s strengths have been diluted by success.
Bermuda and London continue to enjoy something of a ‘special relationship’; with the transatlantic partnership providing unique synergies for both the Front Street and Lime Street markets. Most Bermuda reinsurers now operate a Lloyd’s platform, with London syndicates providing them with access to a significant pool of global business, potential ratings benefits and a market benefitting from an entrepreneurial, trading-floor approach to placing risk that has been a defining characteristic of Lloyd’s. And it is has been by leveraging those particular strengths that Bermuda firms have been able to so successfully develop their footprint in Europe and beyond.
If not here, then there
Despite the number of existing syndicates, the Lloyd’s platform continues to be an attractive proposition for Bermuda players. The market provides potential entrants with direct access to business passing through London—business that doesn’t necessarily make its way to the Island’s shores—whilst presenting them with the opportunity to further diversify their coverage by tapping into the London and European markets. As David Watson, president and chief executive officer of XL Re Europe indicated, over the years, Bermuda players have entered the London market in order to take advantage of “Lloyd’s as a global platform”, with syndicates able to leverage “the extent of Lloyd’s licences around the world”. Such international reach enables firms to fulfil “a desire to be global”—something Watson said all insurers and reinsurers aspire to. And with diversification—by line and geography— having become increasingly prevalent as the industry has matured, it is hardly surprising that a Lloyd’s platform has proven itself to be an attractive proposition for Bermuda and global players. Further adding to the appeal of a London presence is an ability to “capture business as and when appetites and attitudes shift”, said Stephen Hartwig, senior vice president and head of insurance at Canopius in Bermuda, with a “presence on both sides of the Atlantic” enabling firms to consider more business, diversify their risk and potentially arbitrage the market. Again Lloyd’s global network of licences means that a London presence provides Bermuda players with an expanded catchment of international business—in terms of both line and geography.
Build or buy
When entering the Lloyd’s market, players have the choice of either building their own syndicate or acquiring an existing platform, with Watson indicating that in the case of an acquired syndicate, firms are able to take advantage of the access it affords to clients and an existing “operational structure”. Together, they enable firms to “hit the ground running”, although he added that in an acquired business, in all likelihood, there would be a need to chang e the existing business model in order to bend it to firm’s emerging needs; also as with buying any entity, there is a run-off exposure of past liabilities.
"Rather than take a profit centre by profit centre approach, firms need to be indifferent as to where business is placed, so long as business placed best suits the firm's underwriting appetite."
Creating your own syndicate at Lloyd’s meanwhile has its own particular challenges, with licensing at Lloyd’s an “extremely timeconsuming” process, according to Watson. And with Solvency II placing increasingly stringent requirements on the franchise, the formation of new, compliant syndicates has become a “real challenge”. For those Bermuda reinsurers that have enjoyed the benefits of speed to market that are a characteristic of the Island, the present, slow entry into the Lloyd’s market is unlikely to hold too much appeal. And with just-in-time capital, epitomised by recent Bermuda sidecars increasingly becoming the order of the day in the face of the soft cycle, the slow pursuit of new business is unlikely to draw further Bermuda players to London in the coming year or so.
Write local, think global
Addressing Bermuda firms’ operational approaches to their Lloyd’s subsidiary, Hartwig said that it was essential to have a global perspective in order that Bermuda and London offices do to not end up competing with one another for business. Instead, it is necessary “to forego competition for the benefit of the wider company”, with such an approach instilled as part of corporate strategy. Watson agreed that it is “absolutely essential to have a global perspective” when operating across multiple jurisdictions, with international offices needing to be “complementary not competitive”.
“Rather than take a profit centre by profit centre approach”, firms need to be “indifferent as to where business is placed, so long as business placed best suits the firm’s underwriting appetite”, Hartwig said. Such an approach needs to come from senior management, with local management and underwriters encouraged to be “indifferent” by the board. In doing so, international teams are encouraged to look to “bottom line profitability”, rather than localised top line results. Hartwig said that it was essential that firms “manage their limits accordingly”. Without such an approach, there was considerable “aggregation potential”, with possible competition helping to drive down pricing—not the outcome a firm is looking for when pursuing greater diversification in additional international offices.
Arbitraging the market
Addressing those incentives behind building a Lloyd’s presence, Hartwig said that one of the most significant is the “opportunity to arbitrage on the layer that you are offered”. He said that “pricing, terms and conditions, and the amount of limit you put up” can vary with the market in which the business is placed. By having an operational presence in both Bermuda and Lloyd’s, players can take “advantage of different terms and conditions on the same risk” on either side of the Atlantic, with the possibility of arbitraging commission, price and the share of a specific programme. Hartwig contrasted the ability of Bermuda players to place an entire $100 million limit, with the market leader and following line approach of the London market, explaining that in Bermuda “one player might have enough limit to place an entire $100 million line and have the option to charge whatever they want, whilst in London it is down to the lead to get the best terms and conditions or else they won’t have any followers” to take up the remaining business. It is in exploiting these differences— “in the programmes that come in, how they are handled, how they are brokered and how they are placed”—Hartwig said, that Bermuda players can really look to leverage a Lloyd’s presence.
Hartwig admitted that with more and more reinsurers establishing a presence in the London market, it will become increasingly difficult to arbitrage to secure beneficial terms and pricing on particular lines of business, but said that for the time being at least, opportunities still exist. He said that with brokers enjoying an increasingly strengthened mandate, they have sought to “allocate specific layers” to individual markets and “wherever appetites are best suited”. In the case of Bermuda, it has predominantly been the higher excess layers, whilst London has seen more of the lower working layer, Hartwig said. Should this trend continue, a London presence will remain attractive in order to view business placed there by the brokers, but at the same time, the ability to arbitrage will deteriorate.
However, not everyone is of the opinion that arbitrage is a key rationale for operating dual platforms. Adam Mullan, chief executive officer of Alterra at Lloyd’s, agreed that while opportunities can exist for an element of pricing or coverage differentiation in a placement in the Lloyd’s and Bermuda markets, the most significant difference will typically be a slightly higher commission in London, where an additional tier of distribution is involved. But arbitraging of pricing against a Bermuda or London market will tend to occur if there are inconsistencies in the approach to pricing the business in a carrier’s different platforms, Mullan said. At Alterra, he indicated that they have a powerful enterprise risk management system and, where a class of business is written in multiple locations, the firm endeavours to ensure that it has real-time clearance of risks and consistency of pricing and methodology across those platforms. This does not prevent business being written on different terms, he added, but does ensure that the firm understands the differences and has a solid business rationale for participating in this way. The decision to participate on the same business in different locations also needs to be balanced against securing a “flow of distribution”, Mullan added, which may or may not make its way to that particular market. He agreed that, given clients’ natural desire to diversify their own counterparty risks, it is common for clients to place their risk in multiple markets, and “to want, say, 25 percent of their business written on Lloyd’s paper and 25 percent placed in Bermuda”, allowing you to have “two bites of the cherry”, although he added that such decisions are “less focused on arbitrage and more on counterparty credit and creating a wider range of participants to ensure greater optionality on future placements”.
One foot in Europe
With a significant number of Bermuda players operating Lloyd’s syndicates, the rate of new entrants has slowed in recent years. Much of this is undoubtedly down to the fact that those Bermuda reinsurers that intended to establish a presence in London have done so, but at the same time, access to the market has become increasingly prescriptive due to those requirements imposed by the Solvency II initiative and greater regulatory demands. The European directive will result in an “increasing level of oversight from the franchise”, Watson said, with such action likely to place additional reporting demands on participants and entrants, which will in all likelihood dilute the attractions of entry. At the same time, European alternatives are creating an “interesting dynamic”, Watson said, with the likes of Ireland able to take advantage of the European passporting agreement in order to access business across the EU, whilst at the same time, offering a more competitive tax environment than that of the London market. However, a recent move by Alterra’s Lloyd’s syndicate to establish a Zurich office, suggests that building into Europe through the London platform might just be the way to go for some reinsurers looking to develop their European offering. Addressing the decision to build out from Lloyd’s, Mullan said that the major driver of the move was “speed of entry”—with the Lloyd’s platform and brand helping to expedite the development of a central European presence. He added that its Zurich office would enable Alterra to “broaden the distribution of our current reinsurance offering at Lloyd’s, which is well suited to the European market”. And as Mullan made clear, Lloyd’s “helps open a lot of doors” in developing an international presence—both in Europe and elsewhere—with the market’s brand recognised worldwide.
Despite pressures from the likes of Switzerland, Luxemburg and Ireland, Lloyd’s position as a unique and leading market nevertheless remains undiminished. “Established entities in London will always do well,” Watson said, with the market able to draw on its “entrepreneurial spirit” to set itself apart from the existing, and emerging, competition. It is this spirit that is so appreciated by Bermuda players, he added, with the strength of the Lloyd’s market and its human capital unlikely to be diluted by recent and ongoing changes to the global re/insurance landscape. Mullan added that the ongoing appeal of Lloyd’s is “predominantly distribution and speed of access to global markets”, with Lloyd’s global licensing agreements and reputation being added attractions. For Bermuda reinsurers, it also offers an opportunity to diversify into specialty lines—for which Lloyd’s is a global hub—with London enjoying a “very solid flow” of a lot of different classes of business. “If you are going to broaden your distribution, London is the obvious place to go,” Mullan concluded. It would seem that there is yet much to hold the interest of Bermuda players.
New York reduces collateral limits for Lloyd’s reinsurers
The latest positive development for those firms operating a Lloyd’s platform has been a move by New York State to reduce the level of collateral London syndicates are required to post to reinsure business in the state. Previously, foreign reinsurers were required to post 100 percent collateral, but the new measures mean that syndicates within the Lloyd’s market will now only need to post 20 percent.
A number of Bermuda reinsurers have already taken advantage of changes to legislation in Florida, New Jersey and New York in order to post reduced collateral limits in the three states, but the new ruling will enable those companies with Lloyd’s syndicates that have not already done so, to post reduced collateral on New York business through their London subsidiaries.
Florida led the way in reducing collateral limits for foreign reinsurers in the US, with New York and New Jersey following suit. Other US states are now considering similar moves in order to maximise foreign involvement in their domestic reinsurance markets. Other cat-prone states appear most likely to follow Florida, New Jersey and New York’s lead.
Lancashire opts for UK tax residency
Bermuda-domiciled, Lancashire, which has subsidiaries in both Bermuda and London, announced on July 27 that it intends to switch its tax residency to the UK. The company said that the firm’s board regularly reviews its tax status and following the latest proposals for the reform of the UK’s Controlled Foreign Companies (CFC) rules, it intends to move its tax residence in order to take advantage of the changed tax environment.
The UK Treasury recently set out changes to its CFC rules in its new ‘Road Map’ for corporate tax reform. The reforms, which are designed to make the UK tax environment more competitive internationally, include a reduction of the corporate tax rate from 28 percent to 24 percent, its lowest ever rate. The measures would encourage a “focus more on profits from UK activity in determining the tax base, rather than attributing the worldwide income of a group to the UK”, according to guidelines set out by the Treasury. The new rules are set to replace existing CFC rules, which David Gauke, exchequer secretary to the Treasury described as “outdated”. The intent is to attract international business to the UK, with the measures making the country the most competitive tax environment in the G20, a factor that was evidently behind Lancashire’s decision to switch its tax residency.
Under the revised CFC rules, Lancashire is not required to change its place of incorporation, with Lancashire making clear that it intends to remain domiciled in Bermuda, with its Bermuda subsidiary continuing to operate and be incorporated on the Island. Lancashire said that it “welcomes the UK government’s wish to explore ways of treating business written in the UK, but with limited UK connection, more favourably under the new CFC regime”, adding that it would be working in consultation with the UK government in the coming months to ensure the fair application of the new CFC rules.
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