Guernsey’s insurance industry has a rich history of innovating to meet changing market needs. It might be on the cusp of the next growth spurt
Guernsey has carved out a clear niche in the insurance industry. Whereas jurisdictions to which it is often compared – Malta, Gibraltar and Luxembourg – tend to focus on their European Union (EU) distribution capabilities (through ‘passporting’ rights that come with EU membership), Guernsey is at the forefront of insurance ‘capital management’.
It occupies a space at the intersection of the insurance and investment industries, helping the insurance sector to attract capital and manage it efficiently, and helping capital markets find attractive insurance-related investment opportunities.
Dominic Wheatley, Chief Executive of Guernsey Finance, summarises: “Guernsey’s insurance sector has mostly concentrated on services to the ‘corporate world’ – responding to market needs; being innovative, agile and flexible; and identifying specialist niche areas where we can excel, rather than competing for ‘volume’ insurance business.”
Options for corporate insurance buyers
Captive insurance has been the backbone of the Guernsey insurance industry for decades. Initially, this market served only large corporate insurance buyers who could set up their own insurance companies as subsidiaries and use them as efficient vehicles to self-insure risks (hence the word ‘captive’).
They also gave direct access to reinsurance markets without having to work through other insurance companies or intermediaries.
According to Guernsey Finance, the first captive insurer was incorporated on the island in 1922, with Guernsey now being home to the captive insurers of more than 20% of the FTSE 100.
Paul Sykes, Managing Director at Aon Guernsey, says a captive insurance company gives its owner the flexibility of a ‘make-or-buy’ decision. If insurance prices are high, or if cover isn’t available through the insurance industry (such as for some cyber risks), corporates can self-insure through their captive (a ‘make’ decision). If prices are low, they will tend to use commercial insurance markets (a ‘buy’ decision).
In the late 1990s, Guernsey found a new growth engine for its captive industry by pioneering the concept of cell companies (commonly known as cell captives). These consist of a single regulated insurance entity housing multiple cells, with each cell enjoying legal segregation of its assets and liabilities – akin to a ‘mini-captive’. By spreading the significant overhead costs of an insurance company across many cells, it became feasible for smaller companies to enjoy many of the benefits of a captive.
New opportunities continue to be found for Guernsey’s captive and cell captive expertise and infrastructure. Since 2014, a significant market has been developed using these vehicles to help pension funds offload longevity risk – the additional costs to the pension fund of members living longer than expected – onto insurance markets. As many UK defined benefit (DB) schemes closed to new members (according to the Pension Protection Fund, only 12% of DB schemes remained open to new members in 2018), they have tried to make their outstanding liabilities as predictable as possible.
One way to do this is to purchase reinsurance cover for these risks through a transaction known as a longevity swap. Captive structures in Guernsey have been a popular vehicle for these transactions – allowing direct access to reinsurance markets and avoiding intermediary fees.
High-profile transactions include the BT Pension Scheme, which in 2014 set up its own captive insurance company in Guernsey and reinsured $16bn of its longevity risk. In 2015, the Merchant Navy Officers Pension Fund used a Towers Watson Guernsey cell captive structure to reinsure $1.5bn of its longevity risk.
New-look investments for capital markets
The post-financial-crisis era presented Guernsey’s insurance sector with an opportunity to tap into a new client base – institutional investors – which it grabbed with both hands.
Quantitative easing policies of leading central banks boosted the volume of capital available for investment, which was in turn deployed across nearly all asset classes and led to the prices of different asset classes, such as equities and bonds, rising together and becoming more correlated. This prompted many investors to look for alternatives with returns uncorrelated to these mainstream assets.
The insurance sector was able to provide a solution via insurance linked securities (ILS). Investors could allocate capital to ‘insurance risks’ – typically providing reinsurance capital to pay for losses from natural catastrophes, and profiting if these losses were less than expected – with returns being largely uncorrelated to equity or bond returns.
According to Willis Towers Watson, capital allocated to ILS globally grew at a compound annual rate of 20% between 2009 and 2018, and reached $93bn in 2018.
It’s a market poised for even more growth. Cedric Edmonds, a Partner in the Portfolio Management team at Solidum Partners, a Zurich-based investment management company specialising in ILS (which has been issuing ILS in Guernsey since 2010), says: “There is a lot more potential; I would describe it as a market in its early teen years. Demand from investors is strong because of the non-correlated risk profile. And from the supply side, there are many insurance risks that haven’t yet come to the ILS market.”
According to Stewart McLaughlin, Risk Consultant at Robus Group, some ILS managers are already bringing life insurance risks to the ILS market, which is growing steadily. He says that there is also potential for cyber and mortgage indemnity risks to make their way into ILS products.
Edmonds has been at the forefront of technical innovation in the Guernsey ILS market. In 2016, Solidum lost its access to Euroclear and was struggling to find a cost-efficient settlement option for an ILS it wanted to issue. Incumbent settlement houses and large banks either didn’t want to do such a small ($14.8m) ILS transaction or were charging fees that made it too expensive. So Solidum designed its own solution.
It created a proprietary electronic settlement system, using blockchain technology, which disintermediated banks and settling houses and dramatically reduced the transactional costs of the ILS issue.
Potential investors were approached and, if interested, were required to set up a node on the blockchain and given a unique cryptographic key. They would then log onto their node, use their key to decode the trade and confirm the transaction. The ILS asset would then be swapped for currency on the blockchain.
The system has also made secondary trading in these securities far easier and cheaper. Solidum has now concluded around 20 ILS transactions worth $50m on the blockchain.
Another recent innovation is the ‘Guernsey hybrid’ – a regulated cell company and investment fund within a single legal entity – which was approved by the Guernsey Financial Services Commission (GFSC) in March 2019.
Currently, many ILS managers have their investment funds based outside Guernsey but use Guernsey-based cells to deploy this capital.
Christopher Anderson, a Partner at law firm Carey Olsen, who pioneered the hybrid, believes this new structure should prove attractive to ILS fund managers, especially those based outside Guernsey. “They will be able to raise their fund and issue the reinsurance policy within the same legal entity,” he says. “This should reduce overhead and transactional costs because there is one regulator to deal with, one board of directors, one auditor, one time zone, so it should be very efficient.”
ILS also has the potential to tap into the fast-growing environmental, social and governance (ESG) investing space. For example, natural catastrophe insurance can play a role in disaster relief following climate-change-induced events.
Some funds might be eligible for Guernsey Green Fund status (a regulatory kitemark issued by the GFSC). And funds or securities could also qualify for TISE GREEN status if listed on The International Stock Exchange (TISE) (see ‘Averting catastrophe’, Businesslife City Edition 2019 for more details).
“This is an area where the breadth of our industry provides advantages and enables us to contribute to climate change, both in the insurance of increasingly regular natural catastrophes and in providing the investment funds needed to deliver the objectives of the Kyoto Protocol and the Paris Agreement,” says Guernsey Finance’s Wheatley. “This is reflected in the ambition and objectives of Guernsey Green Finance, our wide-ranging initiative in the green and sustainable finance space.”
Serving insurtechs
Another trend gaining traction in the industry is ‘insurtech’. It can mean many things, from artificial intelligence-powered systems that make claims management more efficient by studying millions of images of damaged cars or buildings and estimating repair costs in seconds, to online sales of insurance-on-demand, which allows consumers to insure cameras or musical instruments for only a few days or even hours.
It’s this latter category of customer-facing insurtechs that’s opening up a new area of growth for Guernsey’s cell industry. Some are structured as managing general agents (MGAs), which provide underwriting services to an insurance company, and are looking to put up risk capital for the insurance portfolio that they manage.
Nick Pester, Partner and Head of Insurance and Insurtech at Capital Law, and mentor at Startupbootcamp – a multinational accelerator with a focus on insurtech – says there was a first wave of innovative but niche insurtechs. These were becoming the distribution partners of insurance companies, acting as brokers or agents but not taking insurance risk onto their own balance sheet.
This is starting to change, he says. “Many insurtechs are now three or four years old and venture capital companies that invested in them are getting more comfortable with having their money used for risk capital. Previously, they wanted it used to build a customer base and operational capacity. So we’ll be seeing more insurtechs taking insurance risk.”
Wheatley sees a clear opportunity for Guernsey. “We are seeing MGAs use cell structures to invest their own capital and ‘share’ a portion of the underwriting profits or losses they usually pass on to their insurance company principals,” he says.
“On top of that, Guernsey is ideally suited to smaller, niche insurance operations, with the ability to help them as they scale up. We have our own insurtech VC community, outsourced service providers such as compliance services, and a regulatory environment conducive to innovation.”
Why Guernsey?
Edmonds sums up why Solidum uses Guernsey for its ILS products: “We first issued ILS in Guernsey in 2010. At that time, it was really something new. We spoke to various jurisdictions, and Guernsey was the only one to adopt an attitude of ‘we haven’t done that before, but we understand what you are trying to do and we can help you do it’. We have always found the regulator very approachable and willing to discuss doing something different.”
He continues: “The rest of the ecosystem is also conducive to our business. TISE is very good – we were the first to list ILS in Guernsey back in 2011 – as are the service providers.”
Aon’s Sykes says a testimony to the success of Guernsey’s innovation over the years is that other jurisdictions have tended to imitate Guernsey. “We have the experience and the culture to drive innovation, and our regulator has an innovation unit that’s ahead of its time,” he says.
“But the commercial reality is that imitation creates competitive pressure and profits can be competed away. So while innovation is great, it’s not necessarily about being first to market (remember that Google wasn’t the first search engine). It’s probably more important to be able to scale new developments to critical mass, as we have done in captives and ILS. That’s the challenge.”
Wheatley concludes: “I think we are in an enviable position. In many ways we are unique, not competing with major markets such as London and differentiated from other ‘niche’ jurisdictions. Our reputation is strong in terms of delivery – we would probably be regarded as the grandfather of strategic captives and a significant player in other areas such as ILS. And in terms of ethics, we are one of the few offshore jurisdictions on the EU tax whitelist.
“Our ability to compete on talent is also in a robust state. We have a lot of homegrown talent, with around 1,000 people working in the insurance industry, and an ability to attract key skills to the island. We have the highest proportion of actuaries per capita in the world, and an experienced pool of non-executive directors, and advisory expertise as well.”
In terms of competitor jurisdictions, Robus Group’s McLaughlin sees Guernsey in a unique position, and a distinct regional winner when it comes to the intersection of capital and insurance markets. He says: “Bermuda is at the forefront in the Americas, Singapore appears to be gaining traction in Asia, while Guernsey dominates this market space in Europe, with onshore EU jurisdictions focusing much more on passporting.”
He also cites recent regulatory developments in the UK as something to watch. In 2018, the UK introduced cell legislation, positioning London as a potential direct competitor.
However, McLaughlin believes this will be a positive factor. “I consider it will be more of a complement,” he says. “Developments in London are likely to result in significant growth of the overall cell and ILS market, rather than a case of taking business away from Guernsey.
“I am confident we will see new ILS products coming out of London. It could be the rising tide that lifts all ships.”
Guernsey: a prime locale for young insurance talent
Jean-Pierre Bourgaize of Willis Towers Watson – 2019 winner of the Chris Le Conte award for Young Achiever in Guernsey Industry, presented by the Guernsey Insurance Institute Association – considers how the younger generation sees the Guernsey insurance sector
For you, why Guernsey and not a larger insurance centre such as London?
There is definitely an opportunity to fast-track a career. Young professionals often get early career exposure to some of the newest and most innovative insurance products. We also get to rub shoulders with the most senior client executives early in our careers. These are huge opportunities and not something you would typically get working for a large company in London, where you can spend a longer time doing the ‘legwork’ and not being involved in more complicated tasks and senior client interactions. On a personal level, Guernsey is a great place to raise a young family. It’s got good schools, children have access to almost any hobby, and it’s a safe and idyllic place to live.
Is the island a haven for homegrown young insurance talent as well as offshore talent?
It’s both. With education standards on the island being very high, the financial services industry has a strong demand for local talent and also encourages further education on-island, via organisations such as the Chartered Insurance Institute. Some people move away but it’s certainly not the majority. And even those who do, tend to come back in their mid 30s. We also see a good proportion of talent from all over the world. Multinational businesses usually advertise posts internally across their organisations and the Guernsey posts are popular. People like the combination of the island life and being close to the insurance hub of London.
Can this level of attractiveness be maintained?
I think it can get even stronger. Technology and close ties to London work in Guernsey’s favour. More companies are encouraging remote working, and videoconferencing as a way of interacting with clients and colleagues is still on the rise. So it’s becoming even easier to be based in Guernsey, gain experience of Guernsey’s insurance specialities, and at the same time gain experience of the London market. The other technology angle that works in Guernsey’s favour is the trend towards the use of big data and advanced analytics in insurance. Guernsey is a leader in these fields, which resonates with the younger generation.