The UK insurance linked-securities (ILS) framework is “an excellent example of how an industry body such as the London Market Group can work collaboratively with government to bring innovative and long-lasting benefits to the UK (re)insurance economy”, according to Des Potter, managing director or GC Securities, Guy Carpenter.
The new ILS regulations, approved by a government cross-party committee in November last year, allow for insurance and reinsurance firms to transfer risk to the capital markets meaning businesses and consumers can manage their risk more effectively.
Since the launch, two insurance special purpose vehicles (ISPV) have been authorised and over $350 million of securities have been issued to support the transfer of risk to these vehicles.
Potter explained that the two transactions are a “positive start”, but asked, “what lessons can the industry learn to enable London to build on this and achieve its ambition to become a global hub of innovation for the ILS market?”
He said: “The key to London’s success will be innovation that matches the right risk, with the right capital, at the right price, in the most efficient form of risk transfer.”
“The experience of the reinsurance market after the catastrophe losses last year demonstrated that for many, the ILS market is currently the ‘right’ source of capital for property cat risks. The ILS market has been a catalyst for the current evolution in the reinsurance market—London must be at the forefront of this change to maintain its global presence.”
The UK legislation is a bespoke tax regime that allows the qualifying risk transformation vehicles to be exempt from corporation tax and the securities issued to be exempt from both withholding tax and stamp duty provides an internationally competitive framework for the ILS market.
However, Potter explained that “we must recognise that the new regime marks a steep learning curve from a regulatory standpoint and the Prudential Regulatory Authority (PRA) have been diligent in their assessment of applications”.
Potter commented: “They are deploying significant resources to assess each application and it is also understandable the challenge involved to confirm all aspects of the Solvency II regulations for ISPVs are fully satisfied, as with each authorisation they are setting market precedents.”
“It is also important to understand the regulatory environment of each cedant, to enable them to obtain full capital credit for risks transferred to UK ISPVs.”
He added: “The industry must work proactively with the PRA to help their understanding and mitigate any concerns they may have. Particularly with the three mandatory conditions regarding the contractual arrangements to transfer risk to an ISPV, namely that it is at all times fully funded, that the transfer of risk is effective in all circumstances and that the claims of investors are at all times subordinated to the (re)insurance obligations of the ISPV.”
According to Potter, the pipeline of new applications, where Guy Carpenter is engaged, is robust and includes the first full scope multi-arrangement ISPV, registered as a protected cell company as well as applications that will bring new sponsors and insured perils to the ILS market.
He concluded: “A lot of effort has been invested to develop the UK ILS framework, and this provides a landmark opportunity to strengthen London’s influence on the global (re)insurance market. The PRA will continue to apply the necessary level of diligence to each application and potential investors and risk transfer counterparties would expect London to operate to a high standard. The key is to ensure it is a standard that is commercially competitive and drives growth in business and employment opportunities for the UK economy.”
