The UK Financial Conduct Authority’s review of the wholesale insurance broker market could help counter the trend of rising expenses for London market insurers, according to a Fitch Ratings briefing.
This could make London more competitive with smaller hubs in other parts of the world, which have been gaining market share in recent years, the rating agency noted.
However, Fitch said, the outcome of the review is uncertain and will not be known until at least autumn 2018, when the FCA intends to publish an interim report with preliminary conclusions.
If the FCA ultimately finds evidence of anti-competitive practices, this is likely to be more negative for the larger brokers.
Fitch noted that the FCA is examining three topics:
- Whether brokers have the ability to raise the price of their services beyond normal market levels;
- How conflicts of interest affect competition and client outcomes,
- How certain broker practices, particularly “broker facilities,” may affect competition.
Fitch explained that broker facilities are a system by which underwriters commit capital in advance and the broker then groups a large number of risks together to place with those insurers.
Insurers have continued to commit capital to the facilities, “but many have recently criticized the higher commissions on facilities and the FCA has highlighted that placing business via facilities rather than the open market may exclude smaller insurers and harm competition,” said the briefing.
Rising Broker Commissions
Rising broker commissions are contributing to pressure on insurers’ underwriting results, said Fitch, explaining that this trend has been driven in part by the prolonged soft market and falling premium rates, which also has put pressure on brokers’ commissions.
“Data from Lloyd’s of London shows average acquisition costs, which are predominantly fees to brokers, rose from 17 percent of gross premiums written in 2005 to 22 percent in 2016,” Fitch said.
In an April letter to shareholders, Evan Greenberg, chairman and chief executive of insurer Chubb, said some brokers were enriching themselves at the expense of their customers and underwriters and involved in “abusive behavior.”
“These predatory behaviors, which have shown up around the world, and in London in particular, are simply unsustainable from an underwriting perspective and will come back to haunt these brokers,” he said in the letter.
In its report, Fitch said that acquisition costs come on top of higher regulatory costs and heavy investments in IT infrastructure, which all have acted to increase insurers’ expenses.
Therefore, any steps by the UK regulator to help reverse this trend could benefit London market insurers in the long term, it went on to say.
Emerging Market Business Shrinks
“Lower commissions could also help increase volumes by making the market more competitive with international rivals,” Fitch said, noting that the relatively high cost of doing business means London’s share of emerging-market business has shrunk in recent years while hubs Singapore, Bermuda and Zurich have grown.
The biggest impact is Asia where London’s market share fell 1.2 percentage points between 2013 and 2015, said Fitch, quoting data from the London Market Group.
But there could be unintended consequences of possible “aggressive measures from the FCA,” said the briefing.
As many brokers are international and place business in insurance markets worldwide, brokers could respond by routing more business to other markets, added Fitch.
“But we think the risk of this is limited because there is strong underwriting expertise for more complex risks in the London market, and this is unlikely to change, at least in the medium term,” said the report.