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Top Insurance Stories in 2007
Insurance Journal
Find this article at:
http://www.insurancejournal.com/news/national/2007/12/31/86018.htm
© 2007 Wells Publishing, Inc. | Home Search | Contact Us
December 31, 2007
The debate over climate change captured the world's attention, including the insurance industry's, in 2007, while major hurricanes spared the United States' coastline. The soft market took hold of virtually all segments of the insurance market and even buyers in catastrophe-prone regions saw some rate relief. The sub-prime mortgage meltdown seems to have spared much of the industry but the directors and officers market is likely to feel the heat. The safety of products made in China and elsewhere was called into question and manufacturers and parents dealt with hundreds of product recalls. Agency compensation was again a topic of concern as a handful of carriers banned the use of contingent commissions at the beginning of 2007 while a few carriers introduced new supplemental incentive plans to reward profitable agents. One of the world's largest insurance brokers made headlines for producing less than stellar results, while wildfires, floods and other natural disasters prompted several legislative initiatives in states and on Capitol Hill. And in the last days of 2007, the renewal of the Terrorism Risk Insurance Act became reality. The following are the top 10 news stories of the year, as selected by Insurance Journal's editors.
1. Climate Change
2007 marked a turning point on climate change. In February, the Intergovernmental Panel on Climate Change issued the first of three reports. It confirmed: 1) the temperature in the atmosphere and the oceans has grown warmer and can be expected to continue to do so. 2) The amount of greenhouse gasses, mainly CO2 and some methane, has increased markedly since 1750. 3) These gasses are the most significant cause for the temperature increase. 4) Human activity is primarily responsible for their production. Examinations of the likely impact and the remedial steps needed to slow or reverse it followed.
Al Gore also played a major role in this debate, going from politician to Oscar winning filmmaker for "An Inconvenient Truth" to Nobel Peace Prize winner (shared with the IPCC). But his political stances have alienated a lot of people, particularly in the United States. The insurance industry, however, has taken a leading role in documenting climate change and in attempting to halt its advance.
Munich Re and Swiss Re have entire departments dedicated to assessing the impacts. Lloyd's 360 Project recently analyzed the phenomenon. Their actions are driven by the realization that unchecked global warming could eventually wipe out the industry. A report published recently by Risk Management Solutions, the United Kingdom's Tyndall Center, the Organisation for Economic Co-operation and Development, and France's CIRED, analyzed rising sea levels, coupled with extreme weather events. The conclusion: "Total property and infrastructure exposure is predicted to increase from $3 trillion today 5 percent of current global GDP to $35 trillion in the 2070s 9 percent of the projected global GDP." The United Nations Environment Program sponsored a conference in Bali earlier this month aimed at formulating the world's response to the challenge it faces. At the top of the list are carbon emissions. Only time will tell if the measures the U.N. recommends are widely adopted, and whether they will be enough.
2. Hurricanes Hardly Happen
Despite some deadly storms ? Dean in August, Felix in early September and Noel in October no serious hurricane struck the United States in 2007. As a result, insurance company balance sheets are flush at year's end, calls for premium reductions have increased and reinsurance treaty renewals will probably be at lower levels. Such short-term memory loss could be a mistake. Risk Management Solutions recently forecast: "The average risk of landfalling hurricanes in the Atlantic Basin for the next five years known as 'the medium-term view' ? remains at approximately the same level as has been predicted for the past two years, which is significantly above the risk averaged over the long term."
3. Soft Market Everywhere
The soft market catapulted into full swing in virtually all lines of insurance in 2007. Although the absolute level of rate decline varies substantially by line of business the rate of deterioration is accelerating, and appears to be spreading into coastal and catastrophe-prone areas of the country although insurers are still charging rates commensurate with the risks they assume.
Commercial premium rates declined 11.8 percent on average for all sizes of accounts, while personal auto insurance increased just 0.4 percent during the first-half 2007 compared with its level a year earlier. Similarly, despite ongoing problems in some coastal property insurance markets exposed to hurricanes, the property insurance rose just 0.8 percent through June 2007. In the face of the soft market, insurers are still reporting strong underwriting results, in large part because no serious hurricane struck the United States in 2007.
4. Subprime Mortgage Credit Crunch
Over the last five years a combination of rising house prices and clever financial innovations, led mainly by investment banks and hedge funds, fundamentally altered the way home mortgages were structured. Home loans were "packaged" into investment vehicles CDO's (commercialized debt obligations), SIV's (structured investment vehicles), etc., and sold on to investors. Despite the fact that no one really knew what had been "packaged," the rating agencies considered them as low risk securities, often rating them triple "A." When balloon payment provisions caused homebuyers to default, seriously depressing house prices, financial institutions began refusing to deal in them. Global credit markets began to dry up and central banks pumped billions into the currency markets in an effort to keep the vital system going, so far with limited success.
Is the insurance industry affected Ask Swiss Re, who wrote off close to $1 billion in a "mark-to-market loss," arising from its exposure to two credit default swaps. In addition to direct loss exposures, the insurance industry depends on the credit markets for short-term cash needs. The crisis continues to make commercial paper harder to obtain and more expensive. The industry also faces potential directors and officers liability insurance claims from investors targeting the banks and other financial institutions that packaged and sold the original securities. Finally, some fear the crisis could precipitate a global economic recession.
5. Terrorism Coverage
Just two weeks before the end of the year, and the fate of the federal terrorism insurance program was still unknown. But on Dec. 26, just two days before Congress adjourned for 2007, President Bush signed legislation that reauthorizes the federal backstop for seven years.
Some key provisions of HR 2761 or the Terrorism Risk Insurance Program Reauthorization Act (TRIPRA) of 2007 include extending the current program for seven years; eliminating the distinction between foreign and domestic terrorism; and requiring the U.S. General Accountability Office (GAO) to conduct two studies. One study to address the issue of providing terrorist insurance coverage for nuclear, biological, chemical or radiological (NBCR) events and how best to expand such coverage; and the other to be completed in six months to examine the issue of high-risk areas in the United States that are faced with unique capacity constraints. Furthermore, the bill makes adjustments to the current mandatory recoupment requirements of the TRIA program through the use of accelerated policyholder surcharges during the first four years of the seven-year extension (2008-2012).
The current Terrorism Risk Insurance Act expired on Dec. 31, 2007. In mid-December the House of Representatives passed legislation extending TRIA that accepted most of the provisions of the Senate's version. However, the House also added several provisions that were not supported by either the Senate or the White House. The White House said it would go along with the Senate bill but insisted that there be no expansion of the program and that any extension require an increase in private insurance.
6. 'Made in China' Loses Its Luster
Quality control problems hit goods "Made in China" during 2007. Tainted toothpaste, lead paint on toys, poison dog food and similar product control lapses shook consumer confidence. The strict health and safety regulations in force in the United States and the European Union triggered a number of product recalls ? around 20 in the United States in August alone. China's manufacturers, however, and their subcontractors, are only nominally regulated. China's drive to make money, coupled with rampant corruption and an inefficient and archaic legal system, appears to invite shoddy practices. As U.S. courts have no enforcement authority in China, the onus falls on importers and sellers to assure quality standards are met. Insurers become involved when product liability lawsuits are lodged against the companies that sold the goods. While the insurers will defend the lawsuits and pay the claims, they usually exclude product recall expenses from policies.
7. Agency Compensation
Compensation plan structures for independent agents took a turn in 2007 with a handful of major insurance carriers banning the use of contingent commissions at the beginning of the year. Insurers no longer able to compensate agencies through contingents sought out other ways to reward their profitable agencies. Travelers and Chubb were among the insurers that announced plans to replace contingent commissions with new supplemental compensations programs in 2007. The new compensation programs are even better for agents, some said, because they allow agents to know sooner what their year-end bonus might be. But at least one mega-broker, Willis Group Holdings, rejected the incentive arrangements because, it says, they fail to fix the conflicts associated with the contingent commissions they are meant to replace. While mega-brokers such as Willis, Marsh, Aon and Gallagher no longer accept contingent commissions, a number of mid-size brokers do.
8. Fires and Floods
As of the first week in December no Katrina, tsunami, earthquake or similar disaster has occurred. However, there were a number of "lesser" events. Fires in California destroyed more than 2,500 homes, severe storms and flooding struck Washington state in early December and hurricanes ravaged Haiti, Southern Mexico and Central America. The worst floods since 1947 hit the United Kingdom in June and July causing an estimated $4 billion in insured losses. Windstorm Kyrill roared through Holland, Germany, Denmark and on into Eastern Europe leaving around $4 billion in insured losses in its wake.
In the United States a number of disaster-related legislative bills passed through Congress in 2007. From a national reinsurance catastrophe fund to revamping the National Flood Insurance Program, solutions to floods, fires, earthquakes and hurricanes met Capitol Hill with a vengeance though without solutions. A number of states also saw disaster-related legislation introduced. The world is still a dangerous place.
9. Regulation Rumbles
Regulators like incremental changes rather than revolutions. Nonetheless two major upheavals are on the table.
New York's Insurance Superintendent Eric Dinallo has proposed doing away with the collateral trust fund requirements for reinsurers and replacing it with a system that treats the highest rated U.S. and non-U.S. reinsurance companies the same as New York reinsurance companies.
The European Commission has set 2012 for final adoption of the long-delayed Solvency II insurance accounting rules. When the European Union members enact them, they will establish a new standard based on risk levels, rather than capitalization. How to reconcile Solvency II with the U.S. system remains to be worked out.
The U.S. regulatory system was again a topic of discussion. Federal legislation that would establish national standards for state regulation of the surplus lines and reinsurance markets made its second appearance in Congress in 2007. Rep. Ginny Brown-Waite, R-Fla., and Rep. Dennis Moore, D-Kan., reintroduced the "Nonadmitted and Reinsurance Reform Act of 2007." The legislation stalled after passing the U.S. House of Representatives in June.
The industry also saw the re-introduction of legislation that would allow insurers to choose federal rather than state-based regulation under an optional federal charter system. Sens. John Sununu, R-N.H., and Tim Johnson, D-S.D., both members of the Senate Banking Committee, reintroduced "The National Insurance Act of 2007," using the dual-charter system in the banking industry as a model. A House version was later reintroduced by U.S. Reps. Melissa Bean, D-Ill., and Ed Royce, R-Calif. Neither the House nor the Senate version made it out of committee.
10. Marsh Meltdown Hits MMC
Marsh & McLennan (MMC) is still arguably the world's largest insurance intermediary. But while its non-brokerage divisions, Mercer, Oliver Wyman and Kroll, are all doing relatively well, Marsh, the brokerage division, and MMC's original business, has faired poorly. So poorly that MMC President and CEO Michael G. Cherkasky fired its CEO Brian Storms in September, and called Marsh's third quarter earnings performance "unacceptable."
Then on Dec. 21, Michael G. Cherkasky found himself out of a job. A written statement released by the company's board of directors said that the board "determined that a change in leadership will best enable MMC to move forward and enhance shareholder value." MMC also said it would explore "strategies to enhance shareholder value" which included "reviewing its mix of businesses."
The move comes after MMC's financial performance fell short of expectations, the board said. Changing conditions, the loss of contingent commissions following Eliot Spitzer's investigations, an $800 million fine, more competition and its own internal restructuring have combined to seriously weaken Marsh. Last month, MMC posted a 40 percent drop in profits, excluding the $3.9 billion sale of its Putnam Investments unit.
Cherkasky, who has served as president and CEO of the New York-based company since Oct. 2004, will continue in the top job until his replacement is identified.
United States: Finite Reinsurance Under A Microscope: United States v. Ferguson
21 December 2007
Article by William J. Katt
Foley Lardner
Finite reinsurance will be a hot topic over the next few months as the criminal trial of former General Reinsurance Co. (Gen Re) CEO Ronald Ferguson and his four co-defendants commences in January in federal court in Hartford, Connecticut. Mr. Ferguson stands accused with Christopher Garand, a former vice president of Gen Re's finite reinsurance operation, Robert Graham, Gen Re's former assistant general counsel, Christopher Milton, a former vice president of Reinsurance for American International Group (AIG), and Elizabeth Monrad, former chief financial officer of Gen Re, as a result of a finite reinsurance transaction that the United States alleges was fraudulent.
Finite reinsurance is a type of reinsurance that transfers only a finite amount of risk, limited through accounting or financial methods. This type of reinsurance appeared in the 1990s as a way for buyers of reinsurance to acquire some risk protection in times of limited capacity in the reinsurance market. By transferring less risk, insurers have been able to acquire limited reinsurance coverage on potential claims at a lower cost than they could through traditional reinsurance. In recent years, however, some finite reinsurance transactions have been challenged on the ground that they transfer no risk at all.
Finite transactions have been negotiated in several kinds of reinsurance, including loss portfolio transfer, where an insurer passes to the reinsurer some responsibility for a bundle of insurance claims. The indictment against Mr. Ferguson and his co-defendants contains allegations about this type of agreement. The indictment alleges that the transaction in question was a sham, was fraudulent, and violated the federal securities laws.
According to the indictment, the reinsurance agreement provided that AIG was to reinsure a bundle of Gen Re policies under two contracts with a total liability limit of $600 million extending over a two-year period, at a total premium of $500 million, for a net exposure of $100 million. AIG allegedly was to receive $10 million of the premiums as a loss portfolio transfer fee, while Gen Re could withhold the remaining $490 million in an experience account. The indictment alleges that the agreement also contained a commutation provision by which Gen Re could unilaterally terminate the contract at any time and keep any remaining withheld portion of the premiums.
These terms purported to transfer a finite risk from Gen Re to AIG. AIG ultimately appeared to assume a limited risk of $100 million in exchange for $10 million in cash premiums.
According to the indictment, however, the parties also reached a secret side agreement. Under the alleged terms of this agreement, (1) the parties agreed that AIG assumed no real exposure by the transaction — i.e., there was no chance that AIG would ever have to take a loss on its contractual $100 million exposure; (2) AIG agreed to repay to Gen Re the $10 million loss portfolio transfer fee it had advanced as part of the public contract; and (3) AIG agreed to pay to Gen Re a $5 million service fee for its participation in the transaction.
According to the indictment, AIG benefited from the transaction because, on the basis of the total premium owed by Gen Re under the terms of the reinsurance contracts, it increased the loss reserves on its balance sheet by $250 million in the fourth quarter of 2000 and by another $250 million in the first quarter of 2001, enhancing its apparent financial health. Because of the alleged side agreement, however, prosecutors claim that Gen Re essentially lent the purported premium amounts to AIG, amounts that could not properly be booked by AIG as loss reserves.
The Ferguson trial will be the most prominent example to date of the skeptical eye government regulators at the federal and state levels have cast toward some kinds of finite reinsurance transactions in the last few years. If convicted, Messrs. Ferguson, Graham, Milton, and Ms. Monrad each will face up to 230 years in prison and $46 million in fines and Mr. Garand will face 160 years in prison and $29.5 million in fines.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
Ex-General Re Officials' Trial May Highlight Buffett (Update3)
By Jane Mills and David Voreacos
BLOOMBERG NEWS
Nov. 30 (Bloomberg) -- Two former General Reinsurance Corp. executives may argue at their trial that contracts they arranged with American International Group Inc. didn't defraud investors because their boss, billionaire investor Warren Buffett, knew what they were doing, defense lawyers said.
General Re's former Chief Executive Officer Ronald Ferguson and ex-Chief Financial Officer Elizabeth Monrad are among five defendants accused of helping AIG inflate reserves by $500 million in late 2000 and early 2001. Jury selection for the federal criminal trial begins Dec. 3 in Hartford, Connecticut.
Buffett, who isn't charged with wrongdoing, may testify for prosecutors, according to court papers. They're trying to prove executives at AIG, the world's biggest insurer, and General Re, a unit of Buffett's Berkshire Hathaway Inc., sought to deceive investors about AIG's ability to absorb losses. Maurice ``Hank'' Greenberg, AIG's former chief, is an unindicted co-conspirator, defense lawyers say in court filings.
``Buffett is an iconic figure,'' Monrad attorney Reid Weingarten said Oct. 10 at a pre-trial hearing in Hartford. ``He commanded enormous respect with Elizabeth Monrad. The evidence is beyond dispute that he knew about the transaction. He didn't stop it. It is incredibly important to our defense that Elizabeth Monrad believed Buffett was on board.''
Lawyers for Ferguson, 65, and Monrad, 53, claim in court papers that Buffett knew key details about reinsurance contracts at the heart of the case. They have argued in pre-trial motions that they had no intent to defraud and they relied on many people involved in the transaction, including Buffett.
`Factually Incorrect'
Buffett, 77, said claims by Ferguson and Monrad are ``factually incorrect,'' according to Debbie Bosanek, a spokeswoman for Omaha, Nebraska-based Berkshire. Greenberg, 82, has denied wrongdoing and his attorney, Robert Morvillo, said the ex-CEO believed he was involved in a legitimate transaction.
The trial centers on contracts dated Dec. 1, 2000, and March 31, 2001, initiated after analysts criticized AIG's reduction of loss reserves by $59 million in the third quarter of 2000.
Prosecutors say New York-based AIG paid a $5 million fee to Stamford, Connecticut-based General Re for the deal. The companies agreed AIG would incur no losses, even though the contract made it appear AIG could lose $100 million, prosecutors say.
AIG later reversed the transactions and agreed in February 2006 to pay $1.64 billion to settle probes of accounting and sales practices by former New York Attorney General Eliot Spitzer, the U.S. Securities and Exchange Commission and the Justice Department.
Fraud Charges
Prosecutors have brought conspiracy, securities fraud, mail fraud and false statements charges against Ferguson, Monrad and three others: Christopher Garand, 60, a former senior vice president in charge of finite reinsurance; Robert Graham, 59, former assistant general counsel; and Christian Milton, 60, the former head of reinsurance at AIG.
Two former General Re executives, John Houldsworth, 48, and Richard Napier, 56, have pleaded guilty and are expected to testify as government witnesses. Jurors also will hear recorded conversations and review e-mails, court records show. Opening arguments are scheduled for Jan. 7.
Statements by Ferguson and Monrad about Buffett's knowledge are wrong ``in all material respects,'' Bosanek said. In a March 2005 statement, Berkshire said Buffett ``was not briefed on how the transactions were to be structured or on any improper use or purpose of the transactions.''
Buffett's Company
Buffett, the world's third-richest man according to Forbes magazine, is CEO and chairman of Berkshire, which he built during the past four decades into a $200 billion company with businesses ranging from ice cream and bricks to insurance and corporate jet leasing. The company's shares, the most expensive on the New York Stock Exchange, sell for more than $137,000 each.
Lawyers for Ferguson and Monrad discussed Buffett in written responses to the SEC in 2005. The agency staff notified Ferguson and Monrad that it was contemplating enforcement actions.
``The record before the staff establishes that Mr. Ferguson's boss, Warren Buffett, had the same quantum of information about the transaction as Mr. Ferguson,'' said the so-called Wells submission dated Oct. 7, 2005.
``The documents show that Mr. Buffett approved the transaction and subsequently was involved in decisions concerning the fee that AIG paid to General Re and, in fact, made the ultimate decision about the fee,'' wrote Ferguson's attorneys.
No Intent
In her Wells submission, lawyers for Monrad said she never believed that AIG intended to violate securities laws.
``Ms. Monrad believed in 2000 that individuals at Berkshire, particularly Warren Buffett, were apprised of and updated on the contemplated transaction with AIG'' and ``they did not object to it,'' the lawyers wrote.
The SEC filed a federal civil lawsuit against the five defendants on Feb. 2, 2006. That case is pending in New York.
Prosecutors have told defense lawyers they intend to introduce evidence that Ferguson misled Buffett about the $5 million fee that AIG agreed to pay General Re, according to a letter from Assistant U.S. Attorney Eric Glover made public on Sept. 12.
Prosecutors also have identified Greenberg as an unindicted co-conspirator who initiated the so-called loss-portfolio transfer at the heart of the case, Ferguson attorney Douglas Koff said in a June 18 motion.
Greenberg's Role
``Mr. Greenberg is a central figure in the prosecution's case, i.e., an unindicted co-conspirator who allegedly conceived of the LPT as a way to carry out an alleged accounting fraud, and the one person at AIG with whom Mr. Ferguson allegedly discussed the LPT during unrecorded phone conversations,'' Koff said in the motion, which sought to compel AIG to comply with subpoenas.
Greenberg attorney Robert Morvillo said he couldn't comment on whether his client is an unindicted co-conspirator.
``There is no opportunity in the law to respond to an allegation in which you are not named as a party to a lawsuit,'' Morvillo said. ``He is not named as a defendant. He has no opportunity to challenge or respond to the characterization.''
Morvillo said Greenberg ``initiated the transaction in a phone call to Mr. Ferguson, but he believed he was initiating a totally legitimate transaction.''
Greenberg delegated structuring of the transaction to others because he doesn't get involved in such details, Morvillo said.
AIG's board ousted Greenberg in March 2005 and said it was ``improper'' for it to account for the deal as reinsurance. He's now trying to line up support from other AIG investors to sell parts of the company and spur current management to improve performance, according to a Nov. 2 regulatory filing.
The case is U.S. v. Ferguson, 06-cr-137, U.S. District Court, District of Connecticut (Hartford).
To contact the reporters on this story: Jane Mills in Hartford, Connecticut; David Voreacos in Newark, New Jersey at dvoreacos@bloomberg.net .
Last Updated: November 30, 2007 21:18 EST
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Top Insurance Stories in 2007
Insurance Journal
Find this article at:
http://www.insurancejournal.com/news/national/2007/12/31/86018.htm
© 2007 Wells Publishing, Inc. | Home Search | Contact Us
December 31, 2007
The debate over climate change captured the world's attention, including the insurance industry's, in 2007, while major hurricanes spared the United States' coastline. The soft market took hold of virtually all segments of the insurance market and even buyers in catastrophe-prone regions saw some rate relief. The sub-prime mortgage meltdown seems to have spared much of the industry but the directors and officers market is likely to feel the heat. The safety of products made in China and elsewhere was called into question and manufacturers and parents dealt with hundreds of product recalls. Agency compensation was again a topic of concern as a handful of carriers banned the use of contingent commissions at the beginning of 2007 while a few carriers introduced new supplemental incentive plans to reward profitable agents. One of the world's largest insurance brokers made headlines for producing less than stellar results, while wildfires, floods and other natural disasters prompted several legislative initiatives in states and on Capitol Hill. And in the last days of 2007, the renewal of the Terrorism Risk Insurance Act became reality. The following are the top 10 news stories of the year, as selected by Insurance Journal's editors.
1. Climate Change
2007 marked a turning point on climate change. In February, the Intergovernmental Panel on Climate Change issued the first of three reports. It confirmed: 1) the temperature in the atmosphere and the oceans has grown warmer and can be expected to continue to do so. 2) The amount of greenhouse gasses, mainly CO2 and some methane, has increased markedly since 1750. 3) These gasses are the most significant cause for the temperature increase. 4) Human activity is primarily responsible for their production. Examinations of the likely impact and the remedial steps needed to slow or reverse it followed.
Al Gore also played a major role in this debate, going from politician to Oscar winning filmmaker for "An Inconvenient Truth" to Nobel Peace Prize winner (shared with the IPCC). But his political stances have alienated a lot of people, particularly in the United States. The insurance industry, however, has taken a leading role in documenting climate change and in attempting to halt its advance.
Munich Re and Swiss Re have entire departments dedicated to assessing the impacts. Lloyd's 360 Project recently analyzed the phenomenon. Their actions are driven by the realization that unchecked global warming could eventually wipe out the industry. A report published recently by Risk Management Solutions, the United Kingdom's Tyndall Center, the Organisation for Economic Co-operation and Development, and France's CIRED, analyzed rising sea levels, coupled with extreme weather events. The conclusion: "Total property and infrastructure exposure is predicted to increase from $3 trillion today 5 percent of current global GDP to $35 trillion in the 2070s 9 percent of the projected global GDP." The United Nations Environment Program sponsored a conference in Bali earlier this month aimed at formulating the world's response to the challenge it faces. At the top of the list are carbon emissions. Only time will tell if the measures the U.N. recommends are widely adopted, and whether they will be enough.
2. Hurricanes Hardly Happen
Despite some deadly storms ? Dean in August, Felix in early September and Noel in October no serious hurricane struck the United States in 2007. As a result, insurance company balance sheets are flush at year's end, calls for premium reductions have increased and reinsurance treaty renewals will probably be at lower levels. Such short-term memory loss could be a mistake. Risk Management Solutions recently forecast: "The average risk of landfalling hurricanes in the Atlantic Basin for the next five years known as 'the medium-term view' ? remains at approximately the same level as has been predicted for the past two years, which is significantly above the risk averaged over the long term."
3. Soft Market Everywhere
The soft market catapulted into full swing in virtually all lines of insurance in 2007. Although the absolute level of rate decline varies substantially by line of business the rate of deterioration is accelerating, and appears to be spreading into coastal and catastrophe-prone areas of the country although insurers are still charging rates commensurate with the risks they assume.
Commercial premium rates declined 11.8 percent on average for all sizes of accounts, while personal auto insurance increased just 0.4 percent during the first-half 2007 compared with its level a year earlier. Similarly, despite ongoing problems in some coastal property insurance markets exposed to hurricanes, the property insurance rose just 0.8 percent through June 2007. In the face of the soft market, insurers are still reporting strong underwriting results, in large part because no serious hurricane struck the United States in 2007.
4. Subprime Mortgage Credit Crunch
Over the last five years a combination of rising house prices and clever financial innovations, led mainly by investment banks and hedge funds, fundamentally altered the way home mortgages were structured. Home loans were "packaged" into investment vehicles CDO's (commercialized debt obligations), SIV's (structured investment vehicles), etc., and sold on to investors. Despite the fact that no one really knew what had been "packaged," the rating agencies considered them as low risk securities, often rating them triple "A." When balloon payment provisions caused homebuyers to default, seriously depressing house prices, financial institutions began refusing to deal in them. Global credit markets began to dry up and central banks pumped billions into the currency markets in an effort to keep the vital system going, so far with limited success.
Is the insurance industry affected Ask Swiss Re, who wrote off close to $1 billion in a "mark-to-market loss," arising from its exposure to two credit default swaps. In addition to direct loss exposures, the insurance industry depends on the credit markets for short-term cash needs. The crisis continues to make commercial paper harder to obtain and more expensive. The industry also faces potential directors and officers liability insurance claims from investors targeting the banks and other financial institutions that packaged and sold the original securities. Finally, some fear the crisis could precipitate a global economic recession.
5. Terrorism Coverage
Just two weeks before the end of the year, and the fate of the federal terrorism insurance program was still unknown. But on Dec. 26, just two days before Congress adjourned for 2007, President Bush signed legislation that reauthorizes the federal backstop for seven years.
Some key provisions of HR 2761 or the Terrorism Risk Insurance Program Reauthorization Act (TRIPRA) of 2007 include extending the current program for seven years; eliminating the distinction between foreign and domestic terrorism; and requiring the U.S. General Accountability Office (GAO) to conduct two studies. One study to address the issue of providing terrorist insurance coverage for nuclear, biological, chemical or radiological (NBCR) events and how best to expand such coverage; and the other to be completed in six months to examine the issue of high-risk areas in the United States that are faced with unique capacity constraints. Furthermore, the bill makes adjustments to the current mandatory recoupment requirements of the TRIA program through the use of accelerated policyholder surcharges during the first four years of the seven-year extension (2008-2012).
The current Terrorism Risk Insurance Act expired on Dec. 31, 2007. In mid-December the House of Representatives passed legislation extending TRIA that accepted most of the provisions of the Senate's version. However, the House also added several provisions that were not supported by either the Senate or the White House. The White House said it would go along with the Senate bill but insisted that there be no expansion of the program and that any extension require an increase in private insurance.
6. 'Made in China' Loses Its Luster
Quality control problems hit goods "Made in China" during 2007. Tainted toothpaste, lead paint on toys, poison dog food and similar product control lapses shook consumer confidence. The strict health and safety regulations in force in the United States and the European Union triggered a number of product recalls ? around 20 in the United States in August alone. China's manufacturers, however, and their subcontractors, are only nominally regulated. China's drive to make money, coupled with rampant corruption and an inefficient and archaic legal system, appears to invite shoddy practices. As U.S. courts have no enforcement authority in China, the onus falls on importers and sellers to assure quality standards are met. Insurers become involved when product liability lawsuits are lodged against the companies that sold the goods. While the insurers will defend the lawsuits and pay the claims, they usually exclude product recall expenses from policies.
7. Agency Compensation
Compensation plan structures for independent agents took a turn in 2007 with a handful of major insurance carriers banning the use of contingent commissions at the beginning of the year. Insurers no longer able to compensate agencies through contingents sought out other ways to reward their profitable agencies. Travelers and Chubb were among the insurers that announced plans to replace contingent commissions with new supplemental compensations programs in 2007. The new compensation programs are even better for agents, some said, because they allow agents to know sooner what their year-end bonus might be. But at least one mega-broker, Willis Group Holdings, rejected the incentive arrangements because, it says, they fail to fix the conflicts associated with the contingent commissions they are meant to replace. While mega-brokers such as Willis, Marsh, Aon and Gallagher no longer accept contingent commissions, a number of mid-size brokers do.
8. Fires and Floods
As of the first week in December no Katrina, tsunami, earthquake or similar disaster has occurred. However, there were a number of "lesser" events. Fires in California destroyed more than 2,500 homes, severe storms and flooding struck Washington state in early December and hurricanes ravaged Haiti, Southern Mexico and Central America. The worst floods since 1947 hit the United Kingdom in June and July causing an estimated $4 billion in insured losses. Windstorm Kyrill roared through Holland, Germany, Denmark and on into Eastern Europe leaving around $4 billion in insured losses in its wake.
In the United States a number of disaster-related legislative bills passed through Congress in 2007. From a national reinsurance catastrophe fund to revamping the National Flood Insurance Program, solutions to floods, fires, earthquakes and hurricanes met Capitol Hill with a vengeance though without solutions. A number of states also saw disaster-related legislation introduced. The world is still a dangerous place.
9. Regulation Rumbles
Regulators like incremental changes rather than revolutions. Nonetheless two major upheavals are on the table.
New York's Insurance Superintendent Eric Dinallo has proposed doing away with the collateral trust fund requirements for reinsurers and replacing it with a system that treats the highest rated U.S. and non-U.S. reinsurance companies the same as New York reinsurance companies.
The European Commission has set 2012 for final adoption of the long-delayed Solvency II insurance accounting rules. When the European Union members enact them, they will establish a new standard based on risk levels, rather than capitalization. How to reconcile Solvency II with the U.S. system remains to be worked out.
The U.S. regulatory system was again a topic of discussion. Federal legislation that would establish national standards for state regulation of the surplus lines and reinsurance markets made its second appearance in Congress in 2007. Rep. Ginny Brown-Waite, R-Fla., and Rep. Dennis Moore, D-Kan., reintroduced the "Nonadmitted and Reinsurance Reform Act of 2007." The legislation stalled after passing the U.S. House of Representatives in June.
The industry also saw the re-introduction of legislation that would allow insurers to choose federal rather than state-based regulation under an optional federal charter system. Sens. John Sununu, R-N.H., and Tim Johnson, D-S.D., both members of the Senate Banking Committee, reintroduced "The National Insurance Act of 2007," using the dual-charter system in the banking industry as a model. A House version was later reintroduced by U.S. Reps. Melissa Bean, D-Ill., and Ed Royce, R-Calif. Neither the House nor the Senate version made it out of committee.
10. Marsh Meltdown Hits MMC
Marsh & McLennan (MMC) is still arguably the world's largest insurance intermediary. But while its non-brokerage divisions, Mercer, Oliver Wyman and Kroll, are all doing relatively well, Marsh, the brokerage division, and MMC's original business, has faired poorly. So poorly that MMC President and CEO Michael G. Cherkasky fired its CEO Brian Storms in September, and called Marsh's third quarter earnings performance "unacceptable."
Then on Dec. 21, Michael G. Cherkasky found himself out of a job. A written statement released by the company's board of directors said that the board "determined that a change in leadership will best enable MMC to move forward and enhance shareholder value." MMC also said it would explore "strategies to enhance shareholder value" which included "reviewing its mix of businesses."
The move comes after MMC's financial performance fell short of expectations, the board said. Changing conditions, the loss of contingent commissions following Eliot Spitzer's investigations, an $800 million fine, more competition and its own internal restructuring have combined to seriously weaken Marsh. Last month, MMC posted a 40 percent drop in profits, excluding the $3.9 billion sale of its Putnam Investments unit.
Cherkasky, who has served as president and CEO of the New York-based company since Oct. 2004, will continue in the top job until his replacement is identified.
United States: Finite Reinsurance Under A Microscope: United States v. Ferguson
21 December 2007
Article by William J. Katt
Foley Lardner
Finite reinsurance will be a hot topic over the next few months as the criminal trial of former General Reinsurance Co. (Gen Re) CEO Ronald Ferguson and his four co-defendants commences in January in federal court in Hartford, Connecticut. Mr. Ferguson stands accused with Christopher Garand, a former vice president of Gen Re's finite reinsurance operation, Robert Graham, Gen Re's former assistant general counsel, Christopher Milton, a former vice president of Reinsurance for American International Group (AIG), and Elizabeth Monrad, former chief financial officer of Gen Re, as a result of a finite reinsurance transaction that the United States alleges was fraudulent.
Finite reinsurance is a type of reinsurance that transfers only a finite amount of risk, limited through accounting or financial methods. This type of reinsurance appeared in the 1990s as a way for buyers of reinsurance to acquire some risk protection in times of limited capacity in the reinsurance market. By transferring less risk, insurers have been able to acquire limited reinsurance coverage on potential claims at a lower cost than they could through traditional reinsurance. In recent years, however, some finite reinsurance transactions have been challenged on the ground that they transfer no risk at all.
Finite transactions have been negotiated in several kinds of reinsurance, including loss portfolio transfer, where an insurer passes to the reinsurer some responsibility for a bundle of insurance claims. The indictment against Mr. Ferguson and his co-defendants contains allegations about this type of agreement. The indictment alleges that the transaction in question was a sham, was fraudulent, and violated the federal securities laws.
According to the indictment, the reinsurance agreement provided that AIG was to reinsure a bundle of Gen Re policies under two contracts with a total liability limit of $600 million extending over a two-year period, at a total premium of $500 million, for a net exposure of $100 million. AIG allegedly was to receive $10 million of the premiums as a loss portfolio transfer fee, while Gen Re could withhold the remaining $490 million in an experience account. The indictment alleges that the agreement also contained a commutation provision by which Gen Re could unilaterally terminate the contract at any time and keep any remaining withheld portion of the premiums.
These terms purported to transfer a finite risk from Gen Re to AIG. AIG ultimately appeared to assume a limited risk of $100 million in exchange for $10 million in cash premiums.
According to the indictment, however, the parties also reached a secret side agreement. Under the alleged terms of this agreement, (1) the parties agreed that AIG assumed no real exposure by the transaction — i.e., there was no chance that AIG would ever have to take a loss on its contractual $100 million exposure; (2) AIG agreed to repay to Gen Re the $10 million loss portfolio transfer fee it had advanced as part of the public contract; and (3) AIG agreed to pay to Gen Re a $5 million service fee for its participation in the transaction.
According to the indictment, AIG benefited from the transaction because, on the basis of the total premium owed by Gen Re under the terms of the reinsurance contracts, it increased the loss reserves on its balance sheet by $250 million in the fourth quarter of 2000 and by another $250 million in the first quarter of 2001, enhancing its apparent financial health. Because of the alleged side agreement, however, prosecutors claim that Gen Re essentially lent the purported premium amounts to AIG, amounts that could not properly be booked by AIG as loss reserves.
The Ferguson trial will be the most prominent example to date of the skeptical eye government regulators at the federal and state levels have cast toward some kinds of finite reinsurance transactions in the last few years. If convicted, Messrs. Ferguson, Graham, Milton, and Ms. Monrad each will face up to 230 years in prison and $46 million in fines and Mr. Garand will face 160 years in prison and $29.5 million in fines.
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Ex-General Re Officials' Trial May Highlight Buffett (Update3)
By Jane Mills and David Voreacos
BLOOMBERG NEWS
Nov. 30 (Bloomberg) -- Two former General Reinsurance Corp. executives may argue at their trial that contracts they arranged with American International Group Inc. didn't defraud investors because their boss, billionaire investor Warren Buffett, knew what they were doing, defense lawyers said.
General Re's former Chief Executive Officer Ronald Ferguson and ex-Chief Financial Officer Elizabeth Monrad are among five defendants accused of helping AIG inflate reserves by $500 million in late 2000 and early 2001. Jury selection for the federal criminal trial begins Dec. 3 in Hartford, Connecticut.
Buffett, who isn't charged with wrongdoing, may testify for prosecutors, according to court papers. They're trying to prove executives at AIG, the world's biggest insurer, and General Re, a unit of Buffett's Berkshire Hathaway Inc., sought to deceive investors about AIG's ability to absorb losses. Maurice ``Hank'' Greenberg, AIG's former chief, is an unindicted co-conspirator, defense lawyers say in court filings.
``Buffett is an iconic figure,'' Monrad attorney Reid Weingarten said Oct. 10 at a pre-trial hearing in Hartford. ``He commanded enormous respect with Elizabeth Monrad. The evidence is beyond dispute that he knew about the transaction. He didn't stop it. It is incredibly important to our defense that Elizabeth Monrad believed Buffett was on board.''
Lawyers for Ferguson, 65, and Monrad, 53, claim in court papers that Buffett knew key details about reinsurance contracts at the heart of the case. They have argued in pre-trial motions that they had no intent to defraud and they relied on many people involved in the transaction, including Buffett.
`Factually Incorrect'
Buffett, 77, said claims by Ferguson and Monrad are ``factually incorrect,'' according to Debbie Bosanek, a spokeswoman for Omaha, Nebraska-based Berkshire. Greenberg, 82, has denied wrongdoing and his attorney, Robert Morvillo, said the ex-CEO believed he was involved in a legitimate transaction.
The trial centers on contracts dated Dec. 1, 2000, and March 31, 2001, initiated after analysts criticized AIG's reduction of loss reserves by $59 million in the third quarter of 2000.
Prosecutors say New York-based AIG paid a $5 million fee to Stamford, Connecticut-based General Re for the deal. The companies agreed AIG would incur no losses, even though the contract made it appear AIG could lose $100 million, prosecutors say.
AIG later reversed the transactions and agreed in February 2006 to pay $1.64 billion to settle probes of accounting and sales practices by former New York Attorney General Eliot Spitzer, the U.S. Securities and Exchange Commission and the Justice Department.
Fraud Charges
Prosecutors have brought conspiracy, securities fraud, mail fraud and false statements charges against Ferguson, Monrad and three others: Christopher Garand, 60, a former senior vice president in charge of finite reinsurance; Robert Graham, 59, former assistant general counsel; and Christian Milton, 60, the former head of reinsurance at AIG.
Two former General Re executives, John Houldsworth, 48, and Richard Napier, 56, have pleaded guilty and are expected to testify as government witnesses. Jurors also will hear recorded conversations and review e-mails, court records show. Opening arguments are scheduled for Jan. 7.
Statements by Ferguson and Monrad about Buffett's knowledge are wrong ``in all material respects,'' Bosanek said. In a March 2005 statement, Berkshire said Buffett ``was not briefed on how the transactions were to be structured or on any improper use or purpose of the transactions.''
Buffett's Company
Buffett, the world's third-richest man according to Forbes magazine, is CEO and chairman of Berkshire, which he built during the past four decades into a $200 billion company with businesses ranging from ice cream and bricks to insurance and corporate jet leasing. The company's shares, the most expensive on the New York Stock Exchange, sell for more than $137,000 each.
Lawyers for Ferguson and Monrad discussed Buffett in written responses to the SEC in 2005. The agency staff notified Ferguson and Monrad that it was contemplating enforcement actions.
``The record before the staff establishes that Mr. Ferguson's boss, Warren Buffett, had the same quantum of information about the transaction as Mr. Ferguson,'' said the so-called Wells submission dated Oct. 7, 2005.
``The documents show that Mr. Buffett approved the transaction and subsequently was involved in decisions concerning the fee that AIG paid to General Re and, in fact, made the ultimate decision about the fee,'' wrote Ferguson's attorneys.
No Intent
In her Wells submission, lawyers for Monrad said she never believed that AIG intended to violate securities laws.
``Ms. Monrad believed in 2000 that individuals at Berkshire, particularly Warren Buffett, were apprised of and updated on the contemplated transaction with AIG'' and ``they did not object to it,'' the lawyers wrote.
The SEC filed a federal civil lawsuit against the five defendants on Feb. 2, 2006. That case is pending in New York.
Prosecutors have told defense lawyers they intend to introduce evidence that Ferguson misled Buffett about the $5 million fee that AIG agreed to pay General Re, according to a letter from Assistant U.S. Attorney Eric Glover made public on Sept. 12.
Prosecutors also have identified Greenberg as an unindicted co-conspirator who initiated the so-called loss-portfolio transfer at the heart of the case, Ferguson attorney Douglas Koff said in a June 18 motion.
Greenberg's Role
``Mr. Greenberg is a central figure in the prosecution's case, i.e., an unindicted co-conspirator who allegedly conceived of the LPT as a way to carry out an alleged accounting fraud, and the one person at AIG with whom Mr. Ferguson allegedly discussed the LPT during unrecorded phone conversations,'' Koff said in the motion, which sought to compel AIG to comply with subpoenas.
Greenberg attorney Robert Morvillo said he couldn't comment on whether his client is an unindicted co-conspirator.
``There is no opportunity in the law to respond to an allegation in which you are not named as a party to a lawsuit,'' Morvillo said. ``He is not named as a defendant. He has no opportunity to challenge or respond to the characterization.''
Morvillo said Greenberg ``initiated the transaction in a phone call to Mr. Ferguson, but he believed he was initiating a totally legitimate transaction.''
Greenberg delegated structuring of the transaction to others because he doesn't get involved in such details, Morvillo said.
AIG's board ousted Greenberg in March 2005 and said it was ``improper'' for it to account for the deal as reinsurance. He's now trying to line up support from other AIG investors to sell parts of the company and spur current management to improve performance, according to a Nov. 2 regulatory filing.
The case is U.S. v. Ferguson, 06-cr-137, U.S. District Court, District of Connecticut (Hartford).
To contact the reporters on this story: Jane Mills in Hartford, Connecticut; David Voreacos in Newark, New Jersey at dvoreacos@bloomberg.net .
Last Updated: November 30, 2007 21:18 EST