Today, the insurance industry’s relationship with the Financial Conduct Authority (FCA) and Prudential Regulation Authority (PRA) is strong. Looking to the future, there are five ways to further strengthen our relationship to ensure that together we respond positively to the pressures which are shaping the financial landscape.
The insurance sector has a long history of cooperating with stakeholders and placing long-term considerations over short-term gain. The Lloyd’s underwriter, Mr Cuthbert Heath, famously enhanced Lloyd’s reputation by instructing his agents to “pay all claims” in relation to the 1906 San Francisco earthquake. In modern times, the insurance sector has proudly co-operated with governments and regulators on different issues, from ensuring flood insurance remains widely affordable, to covering losses caused by acts of terrorism in the UK.
The advantages of cooperation are obvious. When the insurance industry works closely with regulators and other stakeholders, we can create truly groundbreaking initiatives.
A case in point is the 1-in-100 Initiative, in which public and private sector organizations are cooperating to integrate natural disaster and climate risk into global financial regulation. At the core of the initiative is the 1-in-100 year solvency “stress test”, a concept similar to that developed in recent years by the insurance sector to assess its own ability to manage risk. The test evaluates the maximum probable annual financial loss that an organization, city, or region, could expect in any one-hundred-year period, in order to enable them to manage their risk in a more informed and effective way. The UN Secretary General’s Office and regulatory authorities worldwide are working together to apply these tried and tested principles within the global financial system by 2020.
Looking forward, the insurance industry and regulators should continue to look for further opportunities where we can cooperate to make a real difference to our wider community.
Communication and Consistency
It is imperative that regulators and the insurance industry communicate effectively in order to better understand and respond to the challenges our industry faces.
In today’s environment, where there are enforcement investigations and record-breaking fines connected to misconduct from the financial crisis, it is understandable that regulators want a forceful approach.
However, the approach to the insurance industry should take into account the fact that it emerged relatively unscathed from the financial crisis—and today has a strong capital base, a better understanding of risk and a greater commitment to customers than ever before.
As we move forward together, the regulators should consider how they communicate with each other, to further coordinate their approach and make it more consistent towards regulated firms. This will create a deeper dialogue with industry.
There is also an opportunity for regulated firms to assist the regulator in understanding the industry better. There have been some high-profile senior resignations and staff turnover at lower levels of the regulators, which partly reflects the importance firms are placing on regulation and compliance. The insurance industry should take the opportunity to engage with the regulator and new joiners by offering training, education and resources. This collaborative approach will forge new and strong working relationships with the future generation of regulators.
Insurance companies are responsible for capital. They have a vital role as asset managers, with responsibility for approximately £1.8 trillion of investments (equivalent to 25% of the UK’s total net worth).
The insurance industry also continues to attract external capital. Overseas clients are drawn to the range of highly developed skills—broking to underwriting to risk and analytics. In 2013, the London market reached £60bn of gross written premium with £45bn of this written in London and backed by London capital.
Despite this, the insurance sector remains under pressure. Increased local capacity in emerging economies means that clients are looking to local insurance markets, not the London market. Risk management has also changed significantly in the last 10 years, hastened by regulatory pressures.
In a recent survey by Boston Consulting Group and commissioned by the London Market Group (LMG), the head of the UK’s risk management association commented that nowadays only around 10% of a company’s risks are covered by insurance.
Client needs have evolved with less looking at traditional insurance-based solutions and more seeking insurance-linked-securities (ILS) or capital markets offerings. An influx of capital from pension funds, hedge funds and high-net worth individuals has made it cheaper to transfer certain risks into the capital markets, circumventing traditional reinsurance.
The insurance industry needs to respond to these challenges. We must work closely with today’s risk managers to understand their needs and help them become the risk managers of the future. We must also innovate and develop capital solutions to new risks such as cyber threats, supply chain issues and reputation management.
Capital inflow is only one factor changing our industry—the insurance world of today will not look the same in 10 years. The transition will be smoother if we work closely with our regulators to understand these challenges and evolve our regulatory framework in tandem with our fast-changing sector.
The regulators are encouraging the financial industry to place the client at the heart of its business. The insurance industry should develop new ways to understand its customers by embracing ideas such as behavioural economics, which suggests that customers are not always rational, logical market participants but subject to behavioural biases. We all need to understand the ways in which we might influence the purchasing behaviour of our customers to help us demonstrate that we are acting in their best interests.
The regulators are rightly keen to identify and remove those who engage in misconduct within the industry. Solvency II will place the conduct of senior individuals within the insurance industry sharply into focus. In addition to tackling misconduct, we should also cooperate with the regulators on talent identification and management. Our sector must continue be a modern industry which remains the primary choice for the best and highly skilled, ready to respond to new challenges.