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    IF2

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    © All Rights Reserved
    Download as PDF or read online from Scribd
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    213 views28 pages

    IF1 Chapter 2

    Uploaded by

    khurram95103
    IF2

    Copyright:

    © All Rights Reserved
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    of 28
    The insurance market SST ES Learning objectives Introduction Key terms AA Structure of the insurance market 4a 2 B Insurers 42 © Lioyd’s a D The London Market “4 E Intermediaries 45 F_bistibuton channels 7 46 & Agaregatore H Reinsurance 1 Professionals in insurance J Market organisations Motor Insurers’ Bureau (iB) 49 Key points Question answers Sell-test questions Learning objectives ‘After studying this chapter, you should be able to: ‘+ discuss the operation and structure of the insurance market; * explain the features of different types of insurance company; * describe the structure and main features of the Lloyd's and Londan markets; * describe the different distribution channels used for buying and sell * describe the basic purpose of reinsurance; * describe the functions of underwriters, claims personnel, loss adjusters, loss assessors, actuaries, Fisk managers and compliance officers; * describe the main functions of the major market associations, professional bodies and trade bodies; and * describe the functions of the Motor Insurers? Bureau (MIB).. The insrance maret Seelam fey obser type ara ikhas been tarot TF¥2018-2014 Insurance, oal and regulatory Introduction In chapter 2, we saw how insurance benefits individuals and businesses, by providing a risk transfer Senice. For this service to be operated successfully, there must be some form of marketplace, A marketplace is usually where goods or services are bought and sold, and where buyers and sellers are free to transact business with one another. In this respec, the insurance market is no different from any other type of market, The insurance market operates wherever buyers and sellers happen to be; Le. itis a global market with buyers and sellers in every country. ‘Many buyers of insurance are multinational companies operating in many countries, and their sinnliers of insurance (the insurers) are frequently also multi-national, operating on a global scale, There are some restrictions on this apparently ‘perfect’ market. Some parts ofthe world insist on risks ‘within the country concerned being placed with a domestic or specific insurer, or with an insurer ‘authorised by the State to underwrite that form of insurance in that county. For example, employers? Uiabilty insurance in the UK must be placed with an authorised insurer, while in some provinces of Cenada the lability aspects of mator insurance must be insured with the provincial government agency. ‘Although we will use a simple diagram to depict the way in which the markets stuctured, ihe operation of the insurance marketis complex This can best be explained by looking at an example How it works Ag vas Assingle modest-sized houisehold insurance risk is placed directly, with an insiuter in, the sama tettitory: the insurer ‘etains,the whole ofthe risk premium and is raSporsibe for every valid ‘laim. The supply chain here appears vary ‘short ahd many risks around the warld wil be plaoed an this basis.‘ Tha . However, eye inthis 2nparenty compact arrangement wera fi that here ae complicating factors tat el us ‘Something about the ature ofthe market: Let us assume thatthe insurer, when cons ering ts whole nousehold. account, is éonceined tha there are many risks inthe Same geographic area, This could Tan that, although: « ‘nvidually the risks af al destin see, collectively they presenta high ‘botentlal exposure fo-a single incident ‘caused by, Say, the pil of odd: ore : (eae Ts insur herfore sdk tone picecon fri accumu of food ensues his canbe done by. ‘means 9 ensurance, To Access ts par of the mare te ister nay amply the Seyiees of esirance. | Broki, Th broker may sian ears (aterm aay be poate eae wher considering fs um aecurulatons of expose, may decide wichahie arto is iio of food iiskein oe rath tose sed yan eae tatters food ree na Teth ee From this example we can clearly see that elements of what appeared to be a simple, straightforward {ocal Fisk have become part of a much wider international arrangement. The risk has been shared wi ‘number of other parties. If this is what can occur even with the most straightforward of risks, itis not dificult to imagine a how the larger, more complex risks will often be spread around this global market. The multinational company that has a presence in many different teritories may have very complex arrangements for their Insurances, involving the local insurance market, the intemational insurance market and the reinsurance market. There may be a number of different intermediaries involved at different stages in the process, Fora market to operate successfully b this does not mean that they need to b and sellers must be able to communicate freely. However, ‘one particular place, as advances in methods of communication mean that business can be conducted at places convenient to insured, intermediary and insurer. In practice, of course there are certain recognised centres for insurance, including the London Market which offers worldwide capacity through Lloyd's, the International Underwriting Association of London (1UA) and the company market in general, as we shall see later. ‘This chaptor fetures explanations of the following ideas: ‘Aoere ATES. Heineen Compliance officers Consolidators Direct and indicect Insurance market marketing ipsihes Hows ee = llewainatal Loss adjusters Reinsurance Be anaee ia (Ghaper 2 Ihe nsurance market fk Note that in this and subsequent chapters we refer to the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA). These new UK regulators replaced the Financial Services Authority (FSA) on 1 April 2033. See chapter 9 fora full discussion of the regulatory framework in the UK. A Structure of the insurance market The insurance market is made up of five main groups of people: naa + buyers (policyholders/insured); Lg * intermediaries (those who bring buyers and sellers together); '* aggregators (for price comparison); insurers Geller); and + reinsurers (backers, providing a further means of spreading risks). Think Think of any mart with wich you ar fair and identity the diferent ways in wich selers compte wih one another Would compatton inthis maset fer from competion nthe insurance market? 130, in what ways? Al of these different groups of people communicate with each other and with the many other people ‘who work in or around the insurance market, The interaction between the main categories is easily illustrated by a diagram as shown in Figure 2.2. liter Ae Reinsurance ae (ne ite Let us now expand Figure 2.1, 50 we can take a closer look at the people who may be included under each of the main headings of buyers, intermediaries, insurers and reinsurers (Figure 2.2) 2 Five ain pest bayer TFY2013-2014 Insurance, lga and regulatory Buyers Intermediaries The sellers + The insured Etagt ‘Authorised Insurers Aelaswiers, Prag rine Reinsurance ‘companies t Uoyd's The State (cerrarism a ‘We will look in detail at those who come under the headings of intermediaries, insurers and reinsurers in later sections, though at this stage you will note that there are two types of intermediary: those authorised and those exempt from direct authorisation by the Financial Conduct Authority (FCA). The. latter are able to provide advice either because another person or firm takes responsibilty for their actions or because they gain authorisation by virtue of their membership of a professional body (such as, accountants). First, however, we will take some time to consider those people who buy insurance: without people who are willing to buy insurance there would be no insurance market. Al Buyers The buyets of insurance may be divided into five main types: + private individuals; + partnerships; + companies; * public bodies; and + associations and clubs. AIA Private individuals Many people buy insurance in thelr private capacity. Household buildings and contents insurance will be high on the lst, though motor insurance will tend to be the major item of insurance expenditure for most individuals, Many other types of cover are purchased by individuals. AB. Partnerships Partnerships do not have a separate legal existence, each of the partners being jointly and severally liable, They are most commonly faund in the medical, veterinary and legal professions and thel insurance needs, especially n the area of professional negligence (the giving of poor professional ‘advice that leads to loss), tend to be catered for by specialist schemes. AIG Companies The range covered by this categoty of ‘buyer’ extends from the very largest multinational corporation with a multi-million pound worldwide premium spend to the self-employed sole trader working from home. Uniike partnerships, limited liabilty companies have a separate legal existence from those who ‘own the company. Chapter The insurance market 218 AID Public bodies Many public bodies are major buyers of insurance. Public bodies include local councils and schools.In jo ara some cases, they may be large enough to have set up their own insurance fund through which they ee: tre afr buyors insure some risks, whilst turning to the insurance market to cover other risks. Some public bodies are _‘asuance exempt from compulsory insurance requirements. Police forces, for example, do not have to insure their ‘motor vehicles. However, most exempt bodies still choose to insure risks where there Is a real catastrophe potential - which would include the liability for personal injury in connection with the use of motor vehicles. AME Associations and clubs There are many associations and clubs and all will have some insurance needs. Whether itis the local football club or the local stamp collecting society, the management team or organisers will usually buy insurance cover for liability risks and damage to owned property. They may also act for members by atranging group covers or schemes, In legal terms these unincorporated associations have special requirements because, thearetically, each member is liable for the association's actions. This is why, when policies are issued for such organisations, you will see thatthe insuree's name tends to be expressed as ‘The committee and members for the time being of... Now we know the kinds of peopte who are likely to buy insurance, we will move on to look at the Insurance market itself - who participates in t and what their oles are. B Insurers ‘Any company wishing to transact insurance in the UK must be authorised to do so by the Prudent ee Regulation Authority (PRA). The PRA must be satisfied that the applicant complies with their conditions and with European Union Directives where relevant. n particular insurance companies are required to mute maintain defined levels of solvency margins. (A company’s solvency margin is the difference between its assets and its labilities:) Insurers may be distinguished from ane anotiver in terms of owner of categories of insurer in terms of ownership: ip and function, Tnere are a number * proprietary companies: + Societas Europaeas: * mutual companies * captive companies; * protected cell companies; and + Lloyd's, ‘We will now look at the main features of these different types of insurance company. We will consider Uoy¢’s in section C. B1 Types of insurer as defined by ownership BIA. Proprietary companies Most ofthe insurance companies in this group are registered under the Companies Act 4985, These companies are owned by shareholders who, in buying shares, contribute to the share capital of the firm. Therefore, company profits, after expensas and reserves, belong to the shareholders. Proprietary companies are United Viability companies, Ths means thata shareholders ability forthe jomage company's debi is limited tothe nominal value of the shares they own (the orginally stated face value Eoepat wetite ofthe shares). Some are publicly quoted companies with a share value stated in the recognised financial Sty sompanes exchanges. This applies to many ofthe “household names in insurance. They have the ltters ‘ple after thelr name. Even these companies may choose to operate under a brand: or example, Aviva ple ‘operated atone time under the ‘Nonvich Union’ brand and "RAC" for roadside assistance, and Royal and Sun Aliance ple continues to operate under the MORE THs? banner i k 3 ‘Mutant compases are comedy te palytuldos Acapvelsurer isa repay ahr Insurance cong |F1V2018-2014 nsurance, legal and reuatoy However, some insurance companies operating in the sector are private limited companies whose shares may be owned by a few shareholders, or sometimes by only a single shareholder. Their shares are not available to the general public. in the UK such companies have the designation ‘Lid’ after their names. Ltd companies are more commonly small- to medium-sized insurance intermediary fiems rather than Insurers. BIB Societas Europaeas ‘The Councit Regulation on the Statute for a European Company 2157/2001 is an EU regulation containing the rules for a new public EU company, called a Societas Europaeas or ‘SE’. An SE can register in any Member State of the EU, and transfer to other Member States without the necessity to liquidate the company. it can choose a country with the most suitable regulatory or tax system, although SEs are subject to taxes and charges in all Member States where their administrative centres are situated, The legislation came into force on 8 October 2004 and harmonises some company law and assigned the level of employees representation on boards to supplementary negotiation process expenses. The SE allows for legal cross-border mergers and international transfers of operational centres to replace subsidiary branches, This enables the SE to integrate regulation atthe level ofthe parent company. How it works ‘lian SE was te ashlp company used to conartto an SE enabling Cross-border mérce with an align siisilay, Swiss Re used the SE in abroad restructuring exetese we Saved the costs of liquidating mpi and applying for new lcenses BIC Mutual companies In contrast to proprietary companies, mutual companies are owned by the policyholders. The policyholders share inthe profits of the company by way of lower premiums. In theory, these policyholders are liable for any losses made by the company. However, in reality, mutual companies are limited by guarantee, with a policyholders maximum ability usually limited to their premium. There has ‘been a trend for insurers owned in this Way to demutualise, which means they then become proprietary companies. B1D Mutual indemnity associations ‘As with mutual companies, these too are owned by their policyholders, In addition, however, mutual indemnity associations have their origins in being self-managed pools. The main area where we find, these operating today is in marine insurance, where Protection and Indemnity Associations (known as ‘P and | clubs’) insure certain aspects of marine hull lability. The contribution or ‘call’ is set initially and further calls are possible depending upon the overall results. BIE Captive insurance companies A captive insurer is a properly authorised insurance company. Captive insurance is @ taxefficient method of transferring risk and has become more common in recent years among the large national and international companies. The tax efficiency arises in two ways: + premiums payable to the captive may be tax deductible at source; and * the captive wil be established in a territory with a favourable tax rate that will apply to any trading profits. Many captives operate from offshore locations such as the Republic of Ireland, the Channel. Islands, Bermuda and the Isle of Man because of such favourable tax regimes. ‘Apart from tax efficiency, there a centives. These include: * the ability to get the full benefit of the group's risk control techniques by paying premiums based on its own experience; * avoiding the payment of extra premium designed to meet the direct insurer's overheads; and + obtaining a lower overall risk premium level by being able to place certain risks in the reinsurance market with its flexible products and lower overheads. Many of the UK’s large, and not so large, companies operate their own captive Insurance campany. 4 ; i i Chaps 2 ‘The insurance market BIF Protected cell companies The use of protected cell companies (PCC) as a corporate structure isa relatively new development. In 1997 Guemsey created a new kind of captive that ‘ting fenced’ the assets of the participating cells and allowed them to operate as distinct insurance entities. Since then PCC regulations have been introduced in a number of other countries, including Bermuda, Barbados, Gibraltar, Malta and the Isle of Man. Gibraltar and Malta are able to offer the facility throughout the EU through EU ‘passporting? provisions. ‘APC operalesin wo pats with 4 non-ceular pat (lhe core) and an uoliited aumberof ells.APCC is Saas we a single legal entity, which only has one boatd of directors who manage the affairs of the PCC as a ret whole. The PCC’s articles usually empower the directors of the company to create cells at their discretion simply by resolving to create a new cell, Any cell that itis to become active will need corporate ‘egistration of any cell shares created and issued, and regulatory approval for its planned activities. Each prospective cell onner must enter into a cell management agreement with the PCC board and will bbe bound by the memorandum and articles of association of the PCC. There will also be an agreement for ‘management services with the manager of the PCC, which will be tallored to the specific requirements of the individual cell owners to reflect the type and nature of the business they intend to transact. Entry to the PCC is subject to approval by the PCC board who will require details of the proposed business plan and will agree the parameters within which the cell is to operate. From a regulatory perspective, a PCC files a single annual return but approval Is required in respect of the business plan of each cell. PCCs have many uses and are not just used as risk transfer vehicles. ‘Some insurers use their PCCs to offer“captive’ facilities to clients and some to offer niche products where conventional covers expensive or unavailable. There are a number of benefits to using'a PCC, including the minimum establishment and administration costs, and their creation in territories with Favourable tax rates that will apply Lo any trading profits. B2 Types of insurer as defined by function So far we have classified companies according to their form of ownership. However, in terms of the ‘marketplace it is more relevant to classify them by function or type. Composite companies i <_, [Speptalist insurers ie as ‘These accept soveral types of business (called classes of | These tend to issue policies for oly one class of ‘ousiness) and represent the major part ofthe company | business. market. Composite insurers usually accept fre, motor, accident, ife and marine business as well as other types of insurance, With mergers and acquisitions, the six largest composite groups account for over 60% of general premium income written by UK insurers, Specialist insurers, on the other hand, have expertise in ‘one particular niche area and so they form a valuable addition to the market but in a narrow area. spect siged wath] Pai liealor B3_ The State’ In the UK the Government's preferred method of ensuring adequacy of insurance coverage isto legislate to make certain insurances compulsory. However, the State acts as an insurer in a number of different ‘areas, predominantly in areas of cocial services (welfare benefits) and pension provision (For State benefits) tt also acts as a guarantor (a kind of reinsurer) to the insurance sectar in elation to the insurance of terrorism risks (the detail of which is beyond the scope of this course). C Lloyd's Inthis section we wil examine the structure and man feature ofthe Lloyd's market Lloyds, san Sa institution, is not an insurer. Instead its an organisation providing facilities for the placing of isksinits EEMaut aan ‘own market, Syndicates ate the groups of private individuals or corporate members who actually cary‘ 2™er the risks ({hey provide the financial backing). Each syndicate employs a managing agent and itis the ‘managing agent that appoints the underwriter who may accept risks on behalf of the syndicate. Managing agents are companies specifically established to manage the underwriting of one or more syndicates. Loyd's managing agents are dual

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