Soft market creating a store of disputes

Ill-disciplined underwriting in the soft market is building up a store of problems and potential legal disputes, which will only manifest when market conditions eventually improve and reinsurers feel they again have the leverage to dispute questionable claims.

That is the view of Clive O’Connell, partner at law firm Goldberg Segalla. In his experience, he said, soft markets always generate many legal disputes as underwriting discipline weakens. But actual disputes usually emerge only when the cycle has turned.

“I have observed many cycles during my career and, from a lawyer’s perspective, as brokers try to maintain commission levels and underwriters seek premium volume, broking and underwriting discipline starts to erode. We are seeing the first cracks emerge now in this market.

“The actual disputes will not manifest themselves when the market is this soft, however. I have seen instances where we have advised a client that a claim is not payable. They communicate this to the client and the next day get a call from the chairman of the broker, effectively saying they will be taken off their security list unless they pay that claim.

“In this type of market, where they are worried about premium volume, they will often back down and pay it. It is only when the market starts to harden a bit that they will have the confidence to stand their ground. So the problems being created now will really emerge when the market improves.”

O’Connell notes that the last very soft market—between approximately 1997and 2001—resulted in a plethora of legal disputes, some in niche areas such as film finance, which reinsurers had entered seeking extra premium volume but which they had not fully understood.

Others emerged in workers’ compensation and personal accident business in North America, a phenomenon that became known as the ‘PA spiral’.

“It remains to be seen what problems this more recent soft market will throw up,” O’Connell said. “Regulation is perhaps a lot more stringent than it was but, as the banks have proved, there will always be one-off deals that can create problems for companies.”

He said there are some signs that the market is more disciplined than it has been in previous soft markets, however. The fact that many cedants are retaining more on their own balance sheets rather than taking advantage of cheap reinsurance is one good sign. Another is that there seems to be less evidence of opportunistic arbitrage in this market.

“It is counterintuitive that cedants are retaining more in this market but it shows they are comfortable with these risks and thinking long term, which is a good thing.

“I recall at the height of the last soft market, someone said the only way to make money in this market is to write any business at any price, but reinsure it out for less.

“That type of arbitrage seems less obvious now, which is clearly a good thing. We are also seeing companies return capital to shareholders, rather than using it unwisely—another positive for the market.”