Report & Accounts
I am pleased to report that 2009 has in many respects been a more satisfactory year than 2008. Over the past twelve months the Club has made steady progress in recovering from the effects of the banking and credit crisis which so adversely affected our business that year. Most importantly a recovery in investment markets in most asset classes enabled us to recoup a significant proportion of the unrealised investment losses that we experienced in the final months of 2008. An overall investment gain on liquid assets of more than $55 million during 2009 has contributed to a 5% increase in the Club’s free reserve to a total of nearly $170 million at year end.
The Club’s current free reserve does, however, include the full value of the additional call for the 2008 policy year which was set by the Board in December 2008. At its meeting in May this year the Board confirmed that the second instalment of the call would be payable by August 2010 as scheduled, because despite the generally more favourable position that the Club experienced during 2009, significant uncertainties remain.
On the positive side, the claims experience for our Members for 2009 has been encouraging. Despite an unwelcome surge in the number of larger claims in the last two months of the year, volumes overall are significantly lower than prior years and the cost appears so far to be developing to a lower level than for any of the years from 2004. It remains the case that 2006 and 2007 were the most expensive claims years in the Club’s history no doubt reflecting the very positive trading conditions enjoyed by shipowners during those years. However, as freight rates and volumes declined in 2008 and 2009, claims for our Members appear to have moderated both in number and in value. This development does not however appear to have been evident from claims involving the International Group Pool.Although Pool claims declined significantly in 2008, there appears to have been a resurgence to nearer 2006 and 2007 levels in 2009. At year end recoverable Pool claims for 2009 totalled about $230 million compared with just $87 million at year end for 2008 and $310 million and $303 million for 2006 and 2007 respectively.
It remains to be seen if such a pattern for Members’ claims will continue for 2010, not least because the incidence of large claims is largely random. Trading prospects and freight rates generally have been recovering steadily for some markets for the first few months of this year with fewer vessels idle than for some time. It is not possible to predict whether or not these more favourable conditions will lead to a renewed increase in the cost of claims, but, as I noted a year ago, the cost of certain categories of claim is in any case unlikely to reduce regardless of any market movements. The cost of personal injury and environmental damage will continue to rise along with liabilities that are set by reference to International Conventions or national laws. The environmentally catastrophic losses that may result from the destruction of the ‘Deepwater Horizon’ drill rig in the Gulf of Mexico this April will no doubt have long-term and direct consequences for all shipowners. Discussions already under way indicate that pollution claims resulting from vessels trading to or in the United States in particular are likely to be treated more harshly than ever before, and amendments to OPA 90 and other legislation that will affect shipowners seem inevitable irrespective of the fact that this catastrophic pollution incident has arisen not from a seagoing vessel but from a deep sea oil rig. Furthermore, reinsurance rates for pollution risks worldwide are likely to be affected, and the present limit of cover to $1 billion for oil pollution risks may now be thought to be too low, especially for vessels trading with large volumes of oil as cargo or bunkers to some jurisdictions around the world.
The claims extremes of recent years and the investment volatility of the last two years have required us to review whether or not our current investment strategy remains appropriate. During 2009 your Board examined in great detail whether or not our long standing allocation to fixed income, equity, absolute return and property (primarily Tower Bridge Court in London) continues to offer the most robust and effective investment balance to preserve capital. The Board’s deliberations have been assisted by the Board of ISRe, the Club’s reinsurance subsidiary responsible for investment management, which now includes two non- executive investment professionals. The conclusion reached by ISRe and the Board this February is that broadly, the balance remains appropriate but with some reduction in the neutral position for absolute return funds from 20% to 15% and an increase in the neutral position for fixed income from 45% to 50%. The annualised return objective has been reduced to 4.5% to reflect a generally lower investment expectation, with the currency exposure remaining in line with the currency profile of the Club’s claims at 60% - 90% invested in the US dollar.
Time will tell if our investment strategy proves to be as robust as we anticipate. In the first few weeks of 2010 the investment environment was again subject to further significant shocks, this time resulting from concerns over sovereign debt levels in a number of European Union countries. Whether or not these concerns will be severe enough to destabilise all investment markets in the coming months is not known, but our expectation is that our diversified investment approach will enable us to limit the downside risk.
As I remarked a year ago, volatile claims and investment performance create considerable uncertainty in our business. Some of this uncertainty can be moderated by effective reinsurance arrangements. The importance of the Group’s claims sharing arrangements through the Pool and the Group’s excess of loss reinsurance programme is without parallel. Taken together they provide the most cost-effective way of delivering for our Members the highest level and scope of cover that is commercially available at a cost that is still sustainable. For 2010, by a narrow majority, Group Clubs agreed to increase the individual Club retention from $7 million to $8 million. We did not support this increase. The efficiency of the Pool is assured if Clubs absorb working layer losses within their retention, but we are concerned that at $8 million per claim a Club is carrying individual claims which are too infrequent to be termed ‘working layer’ losses even if there is evidence that larger claims are becoming more frequent.
This has resulted in an increase in the buying of separate retention reinsurance by most Clubs to control claims volatility on terms that are less financially efficient than the ‘at cost’ basis on which claims are pooled.
However, despite rising cost, reinsurance for our retained risks remains important. For many years we have developed relationships with our retention reinsurers which have proved to be of great value for both Class 1 and Class 2 risks. We intend to maintain those relationships in the years to come.
In 2005, the Group’s captive, Hydra, was established to undertake risks on behalf of the Group by reinsuring the upper layer of the pool and the 25% coinsurance retained from the first layer of the Group’s reinsurance programme for individual claims of more than $50 million. The timing was inauspicious. The early years of its operation coincided with the extraordinary escalation in claims hich occurred in 2006 and 2007 and required additional contributions from all Group Clubs amounting to more than $200 million. 2008 was a much better year, but 2009, in line with the general Pool experience for the year to date, as I have already mentioned, has again been adverse with a loss ratio already in excess of 125%. Whether or not further additional funding will be required is not clear. Hydra’s long-term objective is to create a stable capital reserve to give it the ability on behalf of Group Clubs to underwrite progressively more risk at realistic rates especially at times when market reinsurers, for whatever reason, may be more risk averse. We believe this objective remains sound despite the experience so far.
At the end of 2008, the 2001 Bunkers Convention entered into force. It has widespread application to all commercial vessels except dirty tankers, and it makes mandatory the provision of certificates of financial responsibility (‘blue cards’) by insurers and provides for rights of direct action. After more than a year in operation there have been few issues of concern with the Convention itself, although, as a result of the ‘Pacific Adventurer’ incident in Australia in March 2009 the IMO Legal Committee is being asked to look at increasing the limits of liability under the 1976 Limitation Convention which sets the cap on shipowners’ liabilities under the Bunkers Convention in many jurisdictions. The number of vessels that needed convention certificates to enable them to trade to signatory countries had their requirements met by individual State administrations; in time the entry into force of the HNS Convention, the Wreck Removal Convention, and the revision to the Athens Convention will each require the provision of ‘blue cards’ for increased levels of liability. The proliferation of bureaucratic requirements is therefore set to continue indefinitely. These will not be confined to the implementation of international conventions. For example, recent regulations published by China on the prevention and control of pollution from ships aim to establish comprehensive rules governing oil pollution prevention, response and clean up in Chinese waters. Significantly, as presently drafted, the regulations require shipowners to pre-contract with a Chinese oil spill response organisation before they enter any Chinese port.
Regulation of our industry, while welcome in many respects, has continued to expand. Nowhere is this more apparent than in the context of the Solvency 2 rules that are scheduled to enter into effect in 2012. So far the insurance industry has undergone four quantitative impact studies (QIS) which are intended to assess the impact of the new rules on individual insurance enterprises. QIS 4, carried out in 2009, was expected to be, for practical purposes, definitive in calibrating solvency requirements, but in recent weeks details of a fifth study, QIS 5, have been advised which will modify the requirements for individual entities with the expectation that a higher capital requirement may result. There are also indications that the implementation date may again be delayed.
Two years ago, I commented on the shortage of new and properly trained seafarers, and the concern that the problem would worsen as new ships entered the market for trading. The continuing downturn in shipping through 2009 lessened the concern but it may resume as the shipping market recovers. Another aspect of particular relevance to seafarers continues to be the incidence of acts of piracy off Somalia. National governments have taken steps to co-ordinate their efforts to eradicate the problem with the formation of protective arrangements for vessels transiting the Gulf of Aden, but the rules of engagement for national navies continue to be unclear and less forceful than may be necessary to ensure safe passage. An increased awareness in the United States that US interests may be at risk has resulted in an Executive Order from the President which seeks to block payments to ‘Specially Designated Nationals’ who may be described as pirates or terrorists. Whilst the objectives of the Order may have merit, its scope is not clear nor is its application to non US interests. Limited progress has been made so far to clarify these issues, with the result that efforts to eradicate piracy continue to lack momentum. What remains certain is that shipowners regard the safety of their crews as fundamental and they will continue to do whatever is necessary to safeguard their interests. It is incumbent on national administrations to preserve the equally fundamental principle of ‘freedom of the high seas’ and so enable vessels to continue to meet the trade demands of the world’s population. In particular, it will be necessary for them to consider whether or not their strategic approach should be modified so that pirates can be arrested and prosecuted throughout the Indian Ocean and from other areas where they are beginning to operate.
A related issue that similarly lacks clarity is the status of legislation pending in the United States in relation to the Iran Refined Petroleum Sanctions Act 2009. The Act seeks to prohibit commercial activities between US entities, or entities with US based interests which may include insurers doing business in the US, and certain shipping companies in Iran. However, the scope and application of the Act is unclear as the US administration continues to debate whether or not to implement a version of the Act unilaterally, or see what alternative multilateral UN sponsored sanctions might instead be agreed.
For a number of years the salvage industry has been suggesting that payments made under the 1989 Salvage Convention do not sufficiently reward Salvor’s efforts to protect the environment. The International Salvage Union has proposed that salvors should be entitled to a separate environmental salvage award for carrying out operations in relation to ships or cargo that pose a threat of damage to the environment. Shipowners have long argued that a similar concept of ‘Liability Salvage’ was debated at great length up to 1989 when the Salvage Convention was being negotiated. The concept was rejected in favour of Articles 13 and 14 of the Salvage Convention and the introduction several years later of the Special Compensation P&I Clause, SCOPIC, in Lloyd’s Open Form. SCOPIC is itself a mechanism for remunerating salvors for preventing or minimising damage to the environment. It contains agreed tariff rates which are profitable and generous for personnel, equipment and tugs. The International Group’s position continues to be that it favours a buoyant and viable salvage industry and that the 1989 Salvage Convention and SCOPIC demonstrably work well, but the International Salvage Union’s campaign has recently changed direction. Since their dialogue through the International Group, the International Chamber of Shipping and with property underwriters did not appear to be moving in the direction they wished, they have this year sought a review of the Convention through the Comité Maritime Internationale (CMI). Whether or not this initiative will be more successful remains to be seen. The most recent meeting of interested parties before a CMI panel reached no clear consensus other than to reconfirm that so far as shipowners and the Clubs were concerned, the initiative is misconceived.
In my report last year, I made clear that the overall strategic direction for the Club is to continue to be appropriately conservative in uncertain times. We shall continue to aim for excellence by providing the very best cost-effective service for our Members, and will not therefore seek to grow for growth’s sake or provide alternative products in direct competition with the commercial markets which require separate and additional capital.
In line with our plan to continue to deliver the best service levels, we have made substantial improvements to the structure and manning of our claims teams in London and our overseas offices this year. We are also in the process of upgrading our website. In particular our extranet is scheduled to be in operation in September which will give Members and their brokers comprehensive on-line access to data about their own claims and records.
Since last year’s report, Ejgil Kromann, and Ivan Heesom-Green have retired from the Executive Committee and from the Board. Together they have devoted a generous amount of time to the Club. On behalf of all my colleagues I would like to thank them for their considerable and valuable contributions to our affairs. For particular mention, Ejgil Kromann has since 2002 been Vice-Chairman of the Club and Chairman of the Class 2 Claims Committee. His clear, balanced and principled approach to the consideration of Class 2 discretionary claims will be greatly missed.
During the year Alex Staring, Frode Haukedal, Tomas Dyrbye, Ali Obaid Al-Yabhouni and Yudhishthir Khatau have joined the Board. We wish them a warm welcome and look forward to benefiting from their advice in the coming years.
As always, I would like to thank all my colleagues for their continued commitment to the Club. Their support in these demanding times is very much appreciated. May I also express my gratitude to our Managers on behalf of the Board. They are the face of the Club from our offices around the world and as always work with dedication and skill to provide a professional and responsive level of service that the complexities of ship operation today demand. I am confident they will continue to keep us well placed to meet the challenges ahead.
Finally, may I conclude by recognising and thanking on behalf of the Board Philip Aspden, who retires from the Association as our General Manager in Luxembourg this year after 30 years of service. His professional, dedicated and loyal commitment to our affairs for so many years has been of immense value and will be greatly missed. We warmly welcome Carolina Lockwood as Philip’s successor.