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Monday, May 04, 2009

UK Club reports increase in free reserves and capital

Monday, 04 May 2009

UK Club’s decisive reaction to rising claims, negative investment returns and tighter financial regulation has resulted in an increase in free reserves and capital at 20th February 2009. Highlights
•    Total funds and capital $1,141 million (15 % increase)
•    Total liabilities $807 million (6 % increase)
•    Free reserves and capital $334 million (46 % increase)
•    Market loss on investments limited to $18 million on assets in excess of $900 million
•    2006 policy year closed with no further supplementary premium
•    Estimated supplementary premium for 2008 maintained at 20%
•    Confidence and loyalty to the Club remain high
•    Business well capitalised and positioned for the future
•    Club’s A- (stable outlook) rating reaffirmed by Standard & Poor’s
•    Responded early to heightened investment risk, reduced exposure to equities (3 per cent) and absolute return funds (11 per cent); over one third of investments in fixed interest (bonds) and over half in cash
•    Currency exchange loss on non-dollar assets increased total investment loss to $56 million, but offset by a reduction in the value of non-dollar claims liabilities
•    Raised $100 million hybrid capital, before capital markets closed and global liquidity crisis struck
•    Supplementary premiums on 2006 and 2007 policy years levied in October 2008 to minimise policy year deficits caused in part by high Pool claims in those years
•    The 2008 estimated supplementary premium is not included in the figures for the year end. A decision on the level of call will be taken in October 2009.
Commenting on the results after the Club’s Board meeting in Lausanne on April 27th Hugo Wynn-Williams, chief executive of Thomas Miller P&I Ltd, managers of the UK P&I Club, said:
“The year has been an eventful one for the Club and one that has been marked by the action taken to minimise investment risk, reduce the past policy year deficits and prepare the Club for the prospect of tighter financial regulation through the hybrid capital issue. These steps taken together mean that the Club will be in a strong position to weather the current financial conditions and meet the demands for greater regulatory capital in the future.”
Board action
The UK P&I Club has taken a series of calculated measures to address the rising cost of retained and pooled claims, very low investment returns and the prospect of tighter financial regulation. It has reduced its equity holdings, raised additional capacity for solvency purposes, levied supplementary premiums and set a general increase for the 2009 policy year.
The extraordinary events sweeping the world economy have had a profound impact on financial markets and shipping insurance. Investment returns have moved from a comfortable 5per cent or more over the past five years to a negative return for 2008. At the same time, P&I clubs have faced unprecedented levels of claims resulting from the recent high levels of shipping activity.
In October 2007, the Club had reported that these levels and the increased size of the world fleet would probably produce more large claims. Record claims on the International Group of P&I Clubs’ Pool for the years 2006 and 2007 duly ensued, some of it covered by the outward reinsurance of the Hydra captive. However, 2008 has seen far lower activity on this front which has partially offset the level of retained claims.
Claims within the UK Club’s retention of $7 million continued to increase, by about 11 per cent in 2008 compared with 2007.
Minimising losses from investments
Though outperforming markets generally, the Club incurred a disappointing investment loss of $56 million. Investments suffered from exposure to non-US dollar currencies, absolute return funds and, to a limited extent, poor equities performance. Only one third ($18 million) actually represented underlying investment loss while $38 million was due to the translation effect of revaluing non US dollar assets.
The UK Club considerably reduced its equity holdings in October 2007. By the onset of the present financial turmoil, it held just 3 per cent equities and 11 per cent in absolute return funds, with over one third in fixed interest (bonds) and over half in cash. Despite this, the Club suffered losses on equities and, to a lesser extent, absolute return funds. This was partly redressed by positive returns on cash and fixed interest.
The Board reviewed the Club’s investment policy at the beginning of the year and decided that the restrictions put in place late 2007 on the purchase of new equities should be relaxed to allow some advantage to be taken if there are stock market rallies as economies begin to stabilise. The implementation of this policy will be monitored closely.
Securing future solvency
In July 2008, the UK Club was the first International Group club to raise additional capital for solvency, not operational purposes, in the form of $100 million in hybrid capital at a coupon of 9 per cent. This capital augments the Club’s traditional free reserves and counts as capital for regulatory and rating agency purposes. Its issue marked an important step in preparation for Solvency II, which involves significant changes in EC regulation of insurance companies. Financial sector developments of the last six months are leading regulators and governments to consider even higher capital levels than those envisaged initially under Solvency II.
Reducing deficits through supplementary premiums
As 2008 progressed, the impact of continued claims deterioration, the increased cost of personal injury claims and the absence of investment income threatened the underlying free reserves. By October, a disappointing outcome for the year was unavoidable. Supplementary premiums on the open policy years to restore the level of underlying free reserves, were agreed by the Board. Supplementary levies of 20 per cent on 2006 and 25 per cent on 2007 raised $54 million and $70 million respectively, reducing the deficits to $13 million and $34 million. These supplementaries undoubtedly had some effect on renewals but loyalty to the Club remained high.
Consequently, free reserves at the 20th February 2009 increased to $235 million from $229 million. The hybrid capital increased the Club’s capital and reserves to $333 million.
The estimated 20 per cent supplementary premium proposed on the 2008 year, to be resolved by the board in October, would change the projected outcome on that policy year from a $50 million deficit to a surplus of $13 million.
For the 2009 policy year, the Club set a general increase of 12.5 per cent on renewing mutual owned tonnage and achieved 11.7 per cent before allowing for changes in terms of cover e.g. deductibles etc. The aim was to achieve breakeven on the underwriting result. This increase took account of changes to the Pool; the deficit on the 2008 policy year; the lower inflation and commodity price environment; the lower sterling cost of the managers’ operations; and greater investment risk with returns at historic lows.
Financial position
During the year, Standard and Poor’s changed the Club’s rating from A (stable outlook) outlook to A- (stable outlook). The change reflected S&Ps view about lower financial flexibility, even taking the hybrid capital and supplementary premium levies into account. On 17th April Standard and Poor’s reaffirmed the Club’s A- rating.
Taken overall, the Club has considerably strengthened its financial position, comfortably meeting the requirements of its regulators and is excellently placed to meet those of Solvency II. The uptake of the hybrid capital issue is an outstanding testimony to the confidence in the Club and loyalty remains high.
Claims on the UK P&I Club for the 2008 policy year are projected at $322 million, marginally lower than the 2007 projection of $336 million, which was more costly in retained claims and still involved a record contribution to the International Group of P&I Clubs’ Pool.
People claims from passengers, stevedores, pilots, visitors and particularly crew for illness, death and injury claims grew more than any other category. Of the $24.6 million increase in member claims from 2007 to 2008, a striking $21.5 million was attributable to people. Escalating crew wages, compensation for crew illness, death and injury, disability payments; and enhanced medical care and hospital costs have driven claims upwards.
The UK Club’s Board meeting learned on April 27th that numbers of crew injury claims actually declined by nearly 28 per cent over 1998-2008 and those involving medical costs or compensation by 16 per cent. The managers feel these reductions speak well of members’ efforts to maintain high safety standards and screen new crew properly. However, the average cost per crew claim has increased well above normal inflation levels. For illness claims, the average cost rose three times from 1999-2008: $7,525 to $22,920. This trend is of major concern to all P&I clubs.
There were several large dock and shore installation damage claims early in 2008. Two have been reported to the Pool, with both estimated to cost less than $15 million. This category can be volatile. As ship utilisation decreases, these types of claim may diminish.
Even though commodity values have been rising, cargo claims have been relatively stable and expected upward spike in claims in 2007 and early 2008 did not occur. This may partly reflect the carriage of finished goods rather than commodities but also indicates high operating standards.
If the current shipping recession follows the patterns of previous ones, claims volumes may drop substantially. This should help to move the combined ratio to below 100 per cent but the extent and timing of such a fall will be uncertain.
Source: UK & P&I Club