3613w_index_institutions.qxp 17/03/2006 18:28 Page 1 Winter 2004/05 The Willis Index Financial Institutions Newsletter nN=OMMS qÜÉ=cáå~åÅá~ä=fåëíáíìíáçåë=fåëìê~åÅÉ=~åÇ=oáëâ=j~å~ÖÉãÉåí=nì~êíÉêäó The Willis Index is a quarterly Market Conditions and Results of the publication reporting on the relevant issues affecting the insurance industry and the impact they have upon the Market Survey Financial Institutions sector. The main _ìëáåÉëë=~ë=rëì~ä mêáã~êó=mêÉãáìã=o~íÉë=J=åÉñí=íÜêÉÉ=ãçåíÜë feature is an extensive market survey In the last Willis Index, we ventured that the insurance taken from over 50 insurers, providing responses on key indicators including losses resulting from Hurricanes Katrina, Rita and Wilma Crime might result in a tough and expensive reinsurance premium, excesses and cover. renewal season for financial institution insurers and Our quarterly analysis provides hence costs might have been passed onto financial buyers with an overview of insurance institutions in 2006. The feedback we have received market conditions and our assessment from the market suggests that our fears of a hardening of the future outlook. market in 2006 driven by reinsurance appeares to be 45% 55% unfounded, as we understand that for the most part, insurers have been able to negotiate flat reinsurance premiums. In light of this we are not expecting insurers to seek premium increases across their renewal book for cases where the risk profile remains unaltered. We are still waiting for closure on the many large Directors & Officers claims that are still outstanding (Wordcom, laddering, Enron). It is possible that these could move towards final settlement during this year, however we do not anticipate they will affect pricing at least until Q1 2007. 47% 53% Our observations are reinforced by the results of this quarter's Willis Index which conveyed that for the first quarter of 2006 approximately half the market feel that rates will remain unaltered whereas the other half predict there will be reductions of up to 10%. The exception to this is Professional Indemnity where 75% of the market believe that rates will remain flat. As ever Professional Indemnity there is some disparity between insurers predictions and marketplace realities. Our experience of the first quarter 25% is that financial institution clients are still able to negotiate discounts at renewal, however the amount of discount that can be generated is variable and is generally dependent on several factors including: mêÉîáçìë=êÉåÉï~ä=íÉêãë 75% If a large discount was negotiated last year for example, `çåíÉåíë 20% plus, then it is unlikely that it will be possible to j~êâÉí=`çåÇáíáçåë=~åÇ=oÉëìäíë=çÑ=íÜÉ replicate a similar saving. It is more likely that the j~êâÉí=pìêîÉó= N market will offer a moderate discount of between jçåÉó=i~ìåÇÉêáåÖ O The data is based on criteria presented 5-10%. ?c~í=cáåÖÉêë?=~åÇ=qê~ÇáåÖ=oççã=içëëÉë P Unchanged by multiple risks and does not relate to jÉÉí=íÜÉ=qÉ~ã Q any one risk in isolation. The rate 1-10% Reduction reductions are not cumulative. pÉãáå~ê=réÇ~íÉ Q 3613w_index_institutions.qxp 17/03/2006 18:29 Page 2 Business as Usual Money Laundering – A Growing Threat (continued) páòÉ=~åÇ=k~íìêÉ=çÑ=_ìëáåÉëë The scale of money laundering and the damage that it causes to business and society in general is an Small to medium sized clients performing international problem. Official estimates suggest that in the UK alone, over £25 billion is laundered activities that insurers deem as 'low risk' are still every year. able to generate better terms in the marketplace than larger institutions, particularly those who The existing anti-money laundering regime consists of measures ranging from provisions in the operate in fields which insurers deem as 'high criminal law to punish money launderers and to deprive them of their proceeds, to the obligation on risk'. the financial services industry and other sectors to identify their customers and to report suspicious activities where necessary. Failure to comply with money laundering regulations could leave company iáãáí=mìêÅÜ~ëÉÇ directors and individual employees open to legal action and possible two year jail sentences. The larger the limit of indemnity purchased the more insurers are required to participate and ^=Äêç~Ç=çîÉêîáÉï=çÑ=íÜÉ=rhDë=êÉÖìä~íçêó=ëóëíÉã=Ñçê=ãçåÉó=ä~ìåÇÉêáåÖ hence the level of competition that the broker can introduce is limited. This mainly applies to mêáã~êó=iÉÖáëä~íáçåW fåíÉêå~íáçå~ä=pí~åÇ~êÇëW the global financial institutions. Proceeds of Crime Act 2002 Financial Action Taskforce (FATF) 40+8 Recommendations j~êâÉí=pÉäÉÅíáçå pÉÅçåÇ~êó=iÉÖáëä~íáçåW Each insurer will have a unique perception of Money Laundering Regulations 2003 how much an individual risk should pay. Some carry the burden of historical losses while others fåÇìëíêó=~åÇ=mêçÑÉëëáçå~ä=dìáÇ~åÅÉW have only existed in a period of market e.g. Joint Money Laundering Steering profitability and hence are often able to offer Group (JMLSG) more attractive terms. b`=iÉÖáëä~íáçåW oìäÉë=~åÇ=pìéÉêîáëáçåW Money Laundering Directives `ä~áã=eáëíçêó e.g. Financial Services Authority (FSA) Any claims payments or circumstances likely to result in claim will have a negative effect on renewal pricing. Parts of the current regime are relatively new and will need time to settle to allow the controls to be properly tested. The Third Money Laundering Directive was formally adopted on the 26th October As ever, the Willis Index is a tool to predict and 2005 and it will need to be implemented by the 15th December 2007. Its aim is to consolidate and record overall trends in the market place, there revise the previous directives, and there is certainly room for improvement and clarification. will always be exceptions to the general trends. The only constant is that it is only when the There is widespread confusion, for example, among financial institutions, solicitors and accountants, broker is fully versed in the client's demands and regarding the legal obligations to disclose any suspicions of criminal activity or the proceeds of needs that the optimum renewal can be crimes, however minor. There is no de minimis provision in the act which means disclosure is required achieved. no matter how paltry the sums involved. There is also a real danger that client confidentiality could be breached when suspicious activity reports are submitted to the National Crime Intelligence Service (NCIS). Furthermore, clients must not be alerted that a suspicious activity report has been made about them. This is proving to be problematic for many institutions, for denying a customer access to certain services may very well alert that client to the suspicions of the institution. The requirements to identify customers are a key element in money laundering obligations but concern has been expressed as to whether the 'Know Your Customer' (KYC) controls create a proportionate and effective regime. One of the key issues of the Third Money Laundering Directive for the UK is the provisions for customer due diligence procedures. The changing regulatory system for money laundering has placed an increased burden of responsibility on companies, their directors and individual employees. Director's & Officer's Liability and Professional Indemnity insurance policies offer a level of comfort in the event that a claim is made for a breach of regulations. Whilst wilful acts of money laundering are clearly not covered, the policies provide valuable cost coverage in defending allegations, and in certain cases will cover the award of any damages where the breach has been proven to be inadvertent or innocent. 2 qÜÉ=táääáë=fåÇÉñW Financial Institutions Q1 2006 3613w_index_institutions.qxp 17/03/2006 18:29 Page 3 'Fat Fingers' and Trading Room Losses The dramatic expansion in the Following Basle II and the in excess of permitted credit derivatives market reflects OMMQ=k~íáçå~ä=^ìëíê~äá~=_~åâ accelerated development of financial limits, or the dynamism in today's trading rpaOSSã 'Operational Risk', Financial outside of permitted product and dealing rooms. As the market The former head of NAB's foreign Institutions recognise that there lines, or has grown, regulators have currency options desk, Luke Duffy, are many ways in which traders not with a designated become increasingly concerned colluded with three other traders can expose the firm and the counterparty. that the 'back office' might fail to to falsely claim that his desk had consequences can be far-reaching. cope with the volume of trading made a profit and hence generate Whilst the development of a single mêçÑÉëëáçå~ä=iá~Äáäáíó especially at a time of crisis. The personal performance bonuses. In viable Operational Risk insurance fåëìê~åÅÉ Bank of England is very aware of fact the team had been able to solution is still some way off, there A professional liability policy the potential problems and has capitalise on weaknesses in the in- are various insurance products provides protection to a firm in commented that financial firms are house trading system 'Horizon' to available that can provide a respect of its liability to third exposed to "significant risks". manipulate results, cover up illegal solution to many of the problems parties or customers arising out of trades and hide losses. generated in the trading the provision of its professional Management's current drive to environment. services. A firm is vicariously liable update back office processes is OMMQ=`Üáå~=^îá~íáçå=láä for the acts of its employees and improving matters to some degree rpaRMMã `êáãÉ=fåëìê~åÅÉ= therefore the insurance will but correcting all the errors and This state controlled entity Typically, crime insurance will protect the firm's liabilities losses is proving to be more breached its mandates when protect the firm against the incurred through the errors of its difficult.