Cyclicality

Great word, that – “cyclicality”. You can sort of see what it means, though I still have strong doubts as to whether it really exists outside the rareified and jargon-filled world of the capital markets. Anyway, what it seems to mean to Lloyd’s and the Economist Intelligence Unit is “characteristic of the cyclical nature of the world re-/insurance market”.

They have produced a not bad paper on Managing the Cycle which you can get from the Lloyd’s trendy website, the core of the paper being 7 Great & Wonderful Things You Should Do To Avoid The Downturn:

* Don’t follow the herd. Insurers need to be prepared to walk away from markets when prices fall below a prudent, risk-based premium.
Yeah – like that’s going to happen [to quote Shrek]

* Invest in the latest risk management tools. Insurers must push for continuous improvement of these tools based on the latest science around issues such as climate change, and make full use of them to communicate their pricing and coverage decisions.
OK, but I’m a little surprised that that’s number 2 on the list. It sort of depends what you’re writing as well, doesn’t it? I mean climate change is not going to affect something like insurance brokers E&O rates, is it?

* Don’t let surplus capital dictate your underwriting. An excess of capital available for underwriting can easily push an insurer to deploy the capital in unsustainable ways, rather than having that capital migrate to other uses such as hedge funds and equities, or returning it to shareholders.
By ‘unsustainable’ do you mean Ferraris or just poor underwriting?

* Don’t be dazzled by higher investment returns. Don’t let higher investment returns replace disciplined underwriting as base rates creep up on both sides of the Atlantic. Notionally, splitting the business into insurance and asset management operations, and monitoring each separately, is one way to achieve this.
Good point, though I question whether they are high enough for this to be that big a factor at present.

* Don’t rely on “the big one” to push prices upwards. The spectacular insured loss should not be used as an excuse to raise prices in unrelated lines of business. Regulators, rating agencies, and analysts – not to mention insurance buyers – are increasingly resisting such behaviour.
Bit odd, this one. I mean, my understanding is that rates have just NOT increased in lines unrelated to, say, Katrina. So it seems like a bit of a non-point.

* Redeploy capital from lines where margins are unsustainable. There is little that individual insurers can do to alter overall supply-and-demand conditions. But insurers can set up internal monitoring systems to ensure that they scale back in lines in which margins have become unsustainable and migrate to other lines.
…Just when everyone else is doing the same… Sorry, that’s over-cynical, I know, and you’ve got to do something. But beware the other peril of dabbling in types of business about which you really do know nothing at all. Many people come a cropper writing “a bit of non-marine casualty, just to broaden the spread of the book”. Next stop, run-off.

* Get smarter with underwriter and manager incentives. Incentives for key staff should be structured to reward efficient deployment of capital, linking such rewards to target shareholder returns rather then volume growth.
Great idea, but a bit short on detail, a la Blair. I mean how are you actually going to do this?

Answers on a postcard to Lloyd’s and/or the EIU please. Seriously, though, the cycle is obviously crucial and always has been, and one needs at least to try and point people in the right direction, but with all this talk of extra capital washing around, “de-emptions” (another great non-word) turning into “pre-emptions” and lots of new carriers being set up, it does look awfully as if, lemming like, we are rushing towards the collective cliff-face (if cliff-faces can be collective, which I doubt, but hey it’s in line with the spirit of this article).