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The Actuary The magazine of the Institute & Faculty of Actuaries

From the world of general insurance

US sub-prime mortgage crisis
Shortly after the bail-out credit facility for American International Group (AIG) was signed, ex-chairman and chief executive of AIG, Maurice Greenberg and Starr International Company — the company Greenberg now controls — sold 40 million AIG shares between them. These sales raised proceeds of more than $125m, reducing their holdings to less than 10% of the group’s equity, which limits the regulatory requirements imposed on them by New York law.

The first of AIG’s asset sales saw the group sell its 50% stake in London City Airport to the other shareholders in that venture. Other elements of the AIG assets that may follow include the 59% holding in Transatlantic Re, the group’s aircraft leasing business, and various Asian life insurance operations that are believed to be of interest to Prudential in the UK. Analysts at Citibank suggested that Lloyd’s could make significant business gains from the problems at AIG, particularly in the surplus lines market.

It is understood that a number of European insurers have ceased fronting for AIG in view of the deterioration in the AIG credit ratings. The companies concerned include Zurich, Ace, Axa and Allianz — previously they had written a larger line on various large industrial risks than they wished to retain for their own account, and then ceded a proportion to AIG.

Another bail-out operation was agreed at the end of September, this time involving the governments of Belgium, the Netherlands and Luxembourg, and the Fortis financial services group. The need for this action was a consequence of the failure of Fortis to obtain the hopedfor capital injection from BNP Paribas and ING. Each of the governments took a 49% share in the equity of the local Fortis subsidiary, for payments of E4.7bn, E4bn and E2.5bn respectively. The chairman and chief executive of the group have been replaced, and the governments will be taking up significant board representation. It is believed that Fortis is likely to sell its holding in ABN Amro. The rating agencies subsequently downgraded all the main banking and insurance trading companies in the group.

German insurers were involved to a significant extent in the rescue package for the troubled German commercial mortgage bank Hypo Real Estate. Initially, insurers contributed E1.4bn to the overall E50bn package, but this figure may increase over the next few weeks.

Analysts are now starting to assess the impact of the crisis on the global insurance industry. This includes at least $9bn in write-downs on investments in sub-prime mortgages, and at least $3bn in liability claims arising from securities class actions from investors suffering losses from similar write-downs by companies in other industries. In addition, there are likely to be claims brought against mortgage advisers, bankers and investment consultants by individuals who have been adversely impacted by their advice. Once the cost has been finalised, there will still be the issue of which insurer or reinsurer will prove liable to pay the claims.

Asbestos development
By the time The Actuary is published, it is expected that the UK High Court will have issued its judgement on the relevant trigger for insurance coverage for asbestos-related claims under employers’ liability policies where the wording refers to “an injury sustained”. The judgement will decide how these words relate to the period of exposure and the date of manifestation of the asbestos-related diseases.

Florida Hurricane Catastrophe Fund
The Florida Hurricane Catastrophe Fund, which is a reinsurance programme administered by the state of Florida, may face a shortfall in funds if there is a major hurricane in the state. Its solvency is threatened by relatively low capitalisation, exacerbated by inability to borrow extra funds in view of the problems in the global financial markets, according to research published by AM Best, the credit rating agency.

Solvency II
The European Parliament voted in early October to pass the first reading of the text of Solvency II legislation. The approved version incorporated several amendments from the original draft, including allowing local supervisors a greater role in regulation of insurance groups, working alongside the group supervisor. There was also the incorporation of a mediation role for the Committee of European Insurance and Occupational Pensions Supervisors in the case of disputes, and a minimum capital requirement “set at a realistic level and which allows for the development of internal models which must be safe and reliable”. The changes are seen as a means of satisfying smaller countries, which were concerned that they would have little influence on future regulation.

Other regulatory developments
Two sub-committees of the National Association of Insurance Commissioners (NAIC) in the US have voted by a large majority in favour of relaxation of the 100% collateral rules for highly-rated non-US reinsurers, and proposed that the revised arrangements should be put to a vote of the NAIC membership. To be eligible for the reduced terms (which could reduce the collateral requirement for the strongest reinsurers to as low as 10%), a reinsurer would need to be domiciled in an approved jurisdiction according to a new NAIC Reinsurance Supervision Review Department, and have at least US$250m in free reserves and strong ratings from the credit rating agencies.

The proposal would also provide for the reinsurer to write business across all states of the US, rather than having to apply for a licence for each state separately. The full membership of NAIC is expected to vote on the proposal at the quarterly meeting in early December. The move was welcomed by representatives of the European insurance industry, including the International Underwriting Association in London.

After the adverse findings of its recent investigations into sales practices for payment protection insurance (PPI), the Financial Services Authority (FSA) is considering what further action is required to improve compliance with best practice sales procedures. The actions taken so far include the recent imposition of a fine of £7m against Alliance and Leicester for its failings in relation to telephone sales of PPI on unsecured personal loans. This fine (which is the largest of the 19 penalties imposed to date) relates to failures to have adequate systems and controls, to treat customers fairly, to communicate clearly and to provide suitable advice.

Large losses
Explosion and fire at Buncefield, Hertfordshire – 11 December 2005.
The High Court in London has commenced the hearing to decide liability for this event, which is estimated to have cost around £700m, and caused injuries to 43 people. In the early days of the trial, Total Oil, one of the owners of the site, changed its position to admit that all valid claims from the incident should be paid regardless of the distance from the explosion – previously they had maintained that those responsible for the explosion could only be held liable for claims within a 415 metre radius from the explosion.

The trial is expected to be concluded about the end of the year.

Hurricane Gustav, Haiti, Jamaica, Cuba, Gulf of Mexico and Louisiana – 26 August - 1 September.
Insured loss estimates have reduced substantially to the range US$2.5bn to US$4.5bn.

Hurricane Ike, Turks and Caicos Islands, Haiti, Cuba, Texas and Louisiana – September 6 - 13.
Whilst official estimates of the total insured cost originally settled down in the US$8-12bn range, there is a body of opinion which believes that losses could still rise to as much as US$16bn and modelling firm Risk Management Solutions (RMS) has now doubled its initial estimate for industry losses to a range of $13bn to $21bn, making it the third most expensive US hurricane in history. This loss update from RMS comes in the wake of a flurry of projected loss estimates from (re)insurers indicating an industry loss well in excess of initial estimates.

Typhoon Hagupit, Philippines, Taiwan, southern China and Vietnam – 22 - 25 September.
This storm passed to the north of the Philippines as a category 1 (later 2) typhoon – heavy rainfall caused flooding and landslides, the loss of 8 lives and made 10,000 homeless. It then passed south of Taiwan, where the impact was relatively modest. By the time it made landfall in Guangdong province in southern China (having narrowly missed Hong Kong), it had intensified to category 4.

The impact in China was considerable, with a further 17 fatalities and the destruction of around 25,000 homes. It moved over Vietnam as it dissipated, but nevertheless produced very heavy rainfall leading to more floods and landslides and over 40 fatalities in Vietnam. Estimates of economic losses are around US$2bn, mostly in China, but the majority of this is likely to be uninsured, given the low insurance penetration in this part of the world.

Typhoon Jangmi, Taiwan – 27 - 29 September.
This moderated from a category 5 storm at one time to hit the north-east coast of Taiwan as a category 3 typhoon. It caused significant damage and the loss of 2 lives. The main problems were the high winds and up to 1 metre of rainfall. By the time it hit the capital, Taipei, it had moderated considerably, although rainfall in the city amounted to around 200mm. Overall economic losses have been estimated in the range US$800m-1bn, although only around US$125m of this is believed to be insured. Earthquakes in Kyrgyxstan and Tibet – 5/6 October.

This “event” consisted of three quakes, the first measuring 6.6 on the Richter scale with its epicentre on the Kyrgyzstan/ Tajikistan border on 5 October and the other two in Tibet on 6 October. The Tibetan quakes were 15 minutes apart, the first measuring 6.6 on the Richter scale with its epicentre 80 miles west of Lhasa, the Tibetan capital, and the second, measuring 5.1, had its epicentre 10 miles away. At least 72 deaths were reported in Kyrgyzstan and 30 in Tibet – significant damage was reported to a number of villages in the sparsely populated affected areas, but insured losses are unlikely to be material.