Let’s be Frank, Dodd. Just don’t become too distracted…

Clearly, the new US Administration has wasted little time in signaling that it intends to make some material changes to the existing US financial regulatory regime, as typified by the Dodd-Frank Act, and all the regulations that have flowed from its enactment.

On February 3rd, President Trump issued an Executive Order requiring the Department of the Treasury, in conjunction with the members of the Financial Stability Oversight Council (FSOC) to undertake a broad review of the impact of the Dodd-Drank Act (the Act) based upon 6 rather (and perhaps deliberately) vaguely-worded “Core Principles”; and deliver its conclusions within 120 days, so June 2nd.

In reality, the Executive Order can have little direct effect, because any material changes in the scope or content of the Act require action by Congress. Of course, the Congress is now Republican-controlled, and many members have made it clear that they wish to see the Act’s scope “rolled-back”. However, there is little consistency in in terms of what “roll-back” means, and (as with the Affordable Care Act) it is easy to talk about a “repeal” and much harder to execute one. As the Act was more descriptive rather than prescriptive, and focused on codifying rule-making authority and empowering regulatory bodies to do the actual writing of rules, it is probably more important to keep an eye on the subsequent behaviour of individual regulatory bodies and how their governance changes.

It is also worth noting that, while most of the response to the Order has been focused on its potential impact on the Banking sector, it should not be forgotten that the Act was much more broadly-based, establishing the Federal Insurance Office (FIO) as well as the Systemically Important Financial Institution (SIFI) designation, and thus also affecting the (re)insurance sector. Responses to the potential demise of the FIO have been decidedly mixed. Perhaps not surprisingly, the NAIC is strongly in favour of the FIO being abolished; whereas the American Insurance Association (AIA) sees value in its continuing existence as an official entity that can represent the US in international fora, as well domestically in advising the Treasury on the management of the Terrorism Risk Insurance (TRIA) programme.

Therefore, so far as the US (re)insurance sector is concerned, the impact of the Order, or of any repeal or modification of the Act is likely to be modest. Much more important is the likely impact of the implementation of the recently-concluded Covered Agreement on Cross-Border Insurance and Reinsurance (the Covered Agreement) between the US (as represented by the FIO!) and the European Union. Within the Covered Agreement, two components stand out: the ending of the requirement for EU-based reinsurers to post collateral as a condition for their cedants getting credit for reinsurance for statutory accounting purposes; and the elimination of local presence requirements within the EU for US (re)insurers. While, as always, “the devil will be in the detail” and full implementation may not occur for some 5 years, the Covered Agreement seems likely to change the business and regulatory landscape for (re)insurers in material ways.

The lesson for the (re)insurance sector here would seem to be to ignore all the rhetoric over the Order, and focus more closely on thinking through the likely consequences of the Covered Agreement.

The Awbury Team


Do you do Digital?

We recently came across an interesting paper from the McKinsey Institute entitled “Digital Risk: Transforming risk management for the 2020s”, in which the firm explored the potential scope and benefits of using “digitization” to improve processes, controls and risk management.

While written with the banking industry in mind, many of its points should apply equally to the (re)insurance industry, where senior managements make increasingly frequent references to “digital transformation” and “innovation”, without necessarily clearly laying out what they mean by that. As a result, “InsureTech” seems still a shadow of its increasingly boisterous banking and NBFI cousins.

Of course, as with the banking industry, many (re)insurers have until recently had to focus on meeting new and more onerous regulatory requirements- particularly Solvency II; undertakings that have left little time or resources available to look at business processes in terms of efficiency and optimization. While Solvency II is still being bedded down, the Bermudan industry is also faced with new reporting and disclosure requirements from the BMA as part of its achievement and maintenance of the all-important “equivalency”. Such efforts place further constraints on resources.

Another issue that digital transformation faces is the fact that its generally “test-and-learn” approach is seen as problematic in a risk environment where the cost of errors in compliance or operational risk can be severe, both in reputational and regulatory terms. This should not deter managements from making the attempt, but clearly managing and controlling the process, and ensuring that the appropriate talent is nurtured are critical to successful implementation.

As with banks, many (re)insurers’ current processes have grown organically and without the application of logic and process engineering. As a result, issues such as “manuscripting” remain far too prevalent, with the unpleasant consequences that can result when a “surprise” occurs in terms of what exactly the risk being covered is (and rarely in a positive sense!), while organizational structures have not been adapted to make effective use of the streamlining that a fully digital end-to-end process can permit. Checks and balances are all very well, but layers of decision-making are often counter-productive, and create serious bottlenecks. Not for nothing does the “race go to the swiftest”.

A key skill for (re)insurer CROs will, therefore, be being able to ask the right questions, so that an institution can target areas that will provide the most effective returns in terms of productivity, risk selection and management, and process enhancement. However, to be able to do so, an individual has first to have some understanding of the “art of the possible”, carefully balance abstract nirvana promised by the army of consultants, with the gritty reality of ensuring that a business is not derailed by an overly-ambitious and ill-conceived “master plan”.

Naturally, given the fact that much of what the industry does is, in reality, commoditized, one would think that there would be recognition that the creation of common platforms and processes would be beneficial. However, as numerous failed attempts in, for example, the London Market have shown, achieving “transformation” and commonality is much easier said than done, because market participants find it very difficult to agree on much, and orchestrating change to long-customary behaviours and processes can be an excruciating exercise in “herding cats”.

At Awbury we, therefore, expect that, for all the anticipation and public rhetoric, the rate of change for existing businesses will be incremental and modular, rather than all-encompassing; which, of course, increases the risk of being targeted by non-legacy “disrupters”.

The Awbury Team


It’s the oil market, Jim, but not as we know it…

Whether one likes it, or not, the price of crude oil (which is truly a global market, even if there are multiple segments, benchmarks and regions) still matters a great deal to the functioning of the global economy.

The ructions of the past 2 to 3 years in terms of pricing, supply, alternative technologies and the debates about the advent of the Anthropocene (and what has caused it) mean that we may be entering a new paradigm- with just the modest problem that no-one can really be sure what it will be!

A key question is whether one can any longer be comfortable that past is prologue. Historically (and that is really a period of no more than 150 years), the industry has been one of “boom and bust”, while the only state in the world named after a family or clan (Saudi Arabia) would not exist were it not for oil. In that time, various cartels, from the Standard Oil Trust to OPEC have tried to control the volatility of the market, usually with only short-term success, while control of abundant, flexible and low-cost oil supplies is the archetypal economic and political weapon.

And yet, recent events have begun to create the possibility that the old system in which Saudi Arabia was the “swing producer” is crumbling. “Turning on the taps” to force the price down and inflict unbearable pain on those who have the temerity to challenge the old order has patently not worked, running the risk of further destabilizing an already benighted Middle East. Although the last 2 years have seen scores of bankruptcies and restructurings in the North American E&P and oil services sectors, there has been remarkably little change in the levels of US and Canadian crude oil production considering the scale of price declines and volatility, because the “pain” has caused an habitually entrepreneurial sector to re-order its productivity across the US tight oil production base. One remarkable result is that the amount of oil produced per operating rig has quadrupled in 5 years, while average Finding and Development costs (F&D) have been driven down relentlessly. It is no wonder, therefore, that even at current crude oil price levels around USD 50/barrel, there is what can only be called a bidding frenzy for prospective acreage going on in the Permian Basin of the US.

Of course, it could all end in yet more tears. The dynamics of supply and demand in the oil market are such that the future oil price implied in the forward curve is invariably wrong (and sometimes significantly), while any period of relative stability in prices lulls market participants into thinking that its historic levels of volatility are just that- usually with very bad outcomes for those on the wrong side of the trade.

At Awbury, we have considerable experience in understanding, analyzing and managing the risks posed by this crucial sector, and in providing a range of direct and contingent protection solutions to our clients, as they seek to provide some certainty for their business models.

Therefore, we are always interested in discussing and helping to solve the conundrum which the oil market continues to present.

The Awbury Team