Jim Armitage: Disaster warning for insurance market has a familiar ring about it

 

Outlook Who could ever imagine a repeat of the conditions behind the banking crisis? Surely we will never forget them: a wall of money seeking a home, low interest rates driving investors to ever more complicated assets in search of returns, a resulting downward pressure on prices as investors compete to buy without properly assessing the risk. And finally, disaster: losses on an unforseen scale.

But this week, one man in the City did imagine such a Groundhog Day.

John Nelson is not a banker now, but he was for most of his life. So we should heed him when in his current position, as chairman of the Lloyd's of London insurance market, he warns of parallels.

He warned the insurance world that a flood of cash from hedge funds, pension funds and other investors into the Lloyd's insurance market could tempt underwriters – those gatekeepers of risk – to lose sight of the correct price to charge for insurance. Lloyd's, of course, specialises in the most complex types of insurance – kidnap, oil rigs, shipping, the legal liabilites of everyone from mom 'n pop stores to local government and hospitals.

Now, as if that wasn't complex enough, those behind the clever money have created financial instruments such as catastrophe bonds, which mimic the underlying risk being covered by the insurer.

They're sold to investors by insurers to offset the risk they are taking on their own balance sheets. But now there are rising concerns that they will not cover the true exposure of the insurer when the big claims happen. As the capital markets have charged into the insurance world, so have these derivatives become more complex, boasting names like "sidecars", "Cat-E-Puts", "Cat risk swaps" – the kind of names more familiar to bank securitisation experts than insurance companies.

Fans say such innovations have benefited customers by bringing down premiums. They said the same thing about sub-prime mortgage bonds.

But Mr Nelson was clear in his message to insurers. Amid all the financial wizardry of the derivative inventors, don't lose sight of the key question: can you really afford to pay your customers' claims?

Start your day with The Independent, sign up for daily news emails
  • Get to the point
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Recruitment Genius: Claims Administrator

£16000 - £18500 per annum: Recruitment Genius: This is an excellent opportunit...

Recruitment Genius: Senior SEO Executive

£24000 - £28000 per annum: Recruitment Genius: A Senior SEO Executive is requi...

Recruitment Genius: Online Customer Service Administrator

£16000 - £18000 per annum: Recruitment Genius: An Online customer Service Admi...

Recruitment Genius: Digital Marketing Executive

£18000 - £22000 per annum: Recruitment Genius: This global, industry leading, ...

Day In a Page

'It was first time I had ever tasted chocolate. I kept a piece, and when Amsterdam was liberated, I gave it to the first Allied soldier I saw'

Bread from heaven

Dutch survivors thank RAF for World War II drop that saved millions
Britain will be 'run for the wealthy and powerful' if Tories retain power - Labour

How 'the Axe' helped Labour

UK will be 'run for the wealthy and powerful' if Tories retain power
Rare and exclusive video shows the horrific price paid by activists for challenging the rule of jihadist extremists in Syria

The price to be paid for challenging the rule of extremists

A revolution now 'consuming its own children'
Welcome to the world of Megagames

Welcome to the world of Megagames

300 players take part in Watch the Skies! board game in London
'Nymphomaniac' actress reveals what it was really like to star in one of the most explicit films ever

Charlotte Gainsbourg on 'Nymphomaniac'

Starring in one of the most explicit films ever
Robert Fisk in Abu Dhabi: The Emirates' out-of-sight migrant workers helping to build the dream projects of its rulers

Robert Fisk in Abu Dhabi

The Emirates' out-of-sight migrant workers helping to build the dream projects of its rulers
Vince Cable interview: Charging fees for employment tribunals was 'a very bad move'

Vince Cable exclusive interview

Charging fees for employment tribunals was 'a very bad move'
Iwan Rheon interview: Game of Thrones star returns to his Welsh roots to record debut album

Iwan Rheon is returning to his Welsh roots

Rheon is best known for his role as the Bastard of Bolton. It's gruelling playing a sadistic torturer, he tells Craig McLean, but it hasn't stopped him recording an album of Welsh psychedelia
Russell Brand's interview with Ed Miliband has got everyone talking about The Trews

Everyone is talking about The Trews

Russell Brand's 'true news' videos attract millions of viewers. But today's 'Milibrand' interview introduced his resolutely amateurish style to a whole new crowd
Morne Hardenberg interview: Cameraman for BBC's upcoming show Shark on filming the ocean's most dangerous predator

It's time for my close-up

Meet the man who films great whites for a living
Increasing numbers of homeless people in America keep their mobile phones on the streets

Homeless people keep mobile phones

A homeless person with a smartphone is a common sight in the US. And that's creating a network where the 'hobo' community can share information - and fight stigma - like never before
'Queer saint' Peter Watson left his mark on British culture by bankrolling artworld giants

'Queer saint' who bankrolled artworld giants

British culture owes a huge debt to Peter Watson, says Michael Prodger
Pushkin Prizes: Unusual exchange programme aims to bring countries together through culture

Pushkin Prizes brings countries together

Ten Scottish schoolchildren and their Russian peers attended a creative writing workshop in the Highlands this week
14 best kids' hoodies

14 best kids' hoodies

Don't get caught out by that wind on the beach. Zip them up in a lightweight top to see them through summer to autumn
Robert Fisk in Abu Dhabi: The acceptable face of the Emirates

The acceptable face of the Emirates

Has Abu Dhabi found a way to blend petrodollars with principles, asks Robert Fisk