Gallagher 2020 Pre-Renewal Review: Free Reserves

Broker Gallagher has released its 2020 pre-renewal review, covering past results and the situation for the policy year to date. Today: Free Reserves.

Gallagher reported that 2018-19 saw “the first reversal in the inexorable rise in Club collective free reserves”, but noted that this trend was swiftly reversed in 2019-20 “where a further $182m was tucked away”. The Clubs returned $41m in capital and a net $48m in unplanned call adjustments.

Last year underwriting results deteriorated still further, but such loss was comfortably covered by a substantial contribution from investment income generating $750m.

This generated a net 3.4% increase in free reserves in 2019-20. Gallagher said that, while this was modest compared to that seen in previous years, it was achieved notwithstanding $500m in underwriting losses. Gallagher said that this further evidenced the critical dependency of the Clubs on investment income to achieve sustainability.

The investment crash during March  and April 2020 “starkly demonstrated what could go wrong when negative investment income collided with underpriced underwriting”, said Gallagher.

Although equities had mainly recovered from the Covid-19 crash, Gallagher warned that “the COVID-19 story has possibly not yet run its full course”.

It is a long-running opinion on the part of all brokers with an interest in marine that the Clubs are far too cautious when it comes to the levels of reserves that they think it prudent to maintain.

Gallagher said that the solvency headroom of 70% confirmed that the market was still overcapitalized, despite the technical inadequacy of premium levels. This, it said, meant that the embarrassment of riches in free reserves restricted the Clubs’ abilities to remedy premium inadequacies: “specifically in the context of a five-year period when capitalization has risen by almost $1bn, despite many Clubs returning surplus funds”.

The three Clubs who have returned the most money to members across this five-year period – Britannia, Gard and Steamship, have each still managed to grow their free reserves, despite this generosity, said Gallagher.

The following table demonstrates the sources of balance sheet growth in all Clubs over the past five years.

Five-year Development of Reserves 2015 to 2020 (Financial Year Basis)

Club ($‘000s) Underwriting Result Investment Income Other Income Surplus/ Shortfall Outside Funding Reserve Change
American (56,608) 27,713 (213) (29,108) 44,200 15,092
Britannia 37,769 121,688 (14,836) 144,621 (95,800) 48,821
Gard 236,823 367,272 (78,485) 525,610 (315,463) 210,147
Japan 84,104 38,365 (29,783) 92,686 (29,121) 63,565
London (67.981) 86,482 (2,024) 16,477   16,477
North Of England (18,704) 140,315 (1,910) 119,701 (14,000) 105,701
Shipowners (10,660) 79,155 (28,794) 39,701   39,701
Skuld 25,286 121,330 3,234 149,850 (19,200) 130,650
Standard (126,900) 179,200 (35,800) 16,500 (3,100) 13,400
Steamship 102,664 143,841 (17,741) 228,764 (89,609) 139,155
Swedish (11,407) 59,506 (2,335) 45,764 (7,846) 37,918
United Kingdom* (26,074) 193,125 (46,932) 120,119 (108,711) 11,408
West Of England (14,047) 127,698 (19,196) 94,455   94,455
Total 154,265 1,685,690 (274,815) 1,565,140 (638,650) 926,490

* UK outside funding change includes amortization of subordinated loan of $100m.

“Outside funding” in the table above is defined as both excess/return call income and other Free Reserve development caused by changes to loan capital in the case of the American and UK Clubs. It also includes the impact structural/ acquisition changes (acquisition of Strikes Club by Standard Club). The underwriting result column is also adjusted to reflect the effect of returns of premium as well as excess calls for premium, thus is an ETC equivalent result.