Roger Crombie

For Bermuda insurers and reinsurers, the process of diversification has taken the form of a significant broadening of the market by lines and geographic sources of capital. And these days, the way is led by the introduction of life and annuity business. Our island-based correspondent reports.

For the first 35 years of its existence, the Bermuda insurance market pinned its colors to the property and catastrophe sector. But when Bermuda began to move beyond the captive market it had pioneered in the 1960s, one of the early questions it faced was whether to admit life, and annuity business. A hard decision, rather than a vague policy ruling, was forced upon the Bermuda government in 1974, when the Harvard University medical malpractice program applied to operate its captive business from Bermuda. Sir Henry Vesey, who had been chairman of the Bermuda Trade Development Board in 1969, famously said: "What we want to avoid is overexpansion," and Harvard was duly turned down.

The program went to the Cayman Islands and led to that jurisdiction becoming, over the years, Bermuda's only meaningful offshore competitor in the insurance industry. And until this year, the largest physical presence company in Cayman was Scottish Annuity & Life (SAL), which was founded in 1988 with $250 million of seed capital to reinsure annuities and life insurance products and issue customized variable life and annuity products for the high net worth market.

Commenting late in April this year that "Bermuda is the capital of the global insurance industry," SAL chairman Michael C. French announced that his company had applied to the Bermuda government for permission to conduct its holding company operations out of Bermuda. In addition, SAL is to redomesticate its flagship subsidiary, Scottish Annuity & Life Insurance Co. (Cayman), to Bermuda.

A year earlier, SAL had announced that it was joining forces with Crown World. Services of Bermuda, a designer and marketer of variable life insurance products, to form Scottish Crown (Bermuda) Group. Crown's principle focus is on international tax law, insurance product design, private banking, and investment management. "Scottish Crown will be one of the largest global issuers of offshore variable insurance policies to high net worth world citizens," French said at the time.

The two-step SAL move underlines both of the significant trends that have defined the Bermuda market in the past 18 months: diversification of lines of business and concentration of corporate activities.

The process of diversification has taken the form of a significant broadening of the market by lines and geographic sources of capital, led by the introduction of life and annuity insurance and reinsurance business. Concentration at the corporate level has resulted from the pressure that continuing strong demand has placed on the island's infrastructure. The outcome has been a focus on maintaining holding company operations in Bermuda and sitting subsidiary operations, including marketing (and, increasingly, underwriting) elsewhere, with Dublin and the northeastern United States as the most popular locations.

Ace and XL Connections

Bermuda has had domestic life insurers for almost 100 years--Bermuda Fire & Marine was incorporated at the start of the 20th century--but its international reinsurance sector has traditionally focused on the property and casualty market. That changed in 1998, with them corporation of Annuity & Life (Holdings).

In little more than three years, Annuity & Life Re had assumed by June 30, 2001, an in-force life insurance portfolio of $91.1 billion; the book was at $55.5 billion a year earlier. In addition, the company has collected annuity deposits of $1.6 billion. Annuity & Life Re's client base includes more than 40 of the largest and highest quality U.S. life insurers, and it continues to expand.

XL Capital and Overseas Partners have 13 percent and 8 percent interests in Annuity & Life Re, respectively. Neither company has otherwise laid plans to write life and annuity business itself. As early investors in the new lines, both companies have laid side bets on the industry that will allow them to focus their own operations on their core businesses.

Lawrence S. Doyle, president and chief executive officer of Annuity & Life Re, says: "We have completed more than 50 life reinsurance transactions in less than three years. Our revenue is driven by business written in the current year, as well as continuous business written in prior years. During the first half of this year, we have completed more than 20 new life programs for many of the leading life companies in North America. Our franchise is in an excellent position to meet our earnings growth target of 20 percent plus through 2001." The company moved successfully to the New York Stock Exchange on August 1 this year.

Three factors had been accumulating pressure on property and casualty reinsurers to consider widening their remit. First, almost all industry forecasts suggested that the life and annuity market would outpace the property and casualty sector in the next five, 10 and 20 years. Life insurance and reinsurance are more susceptible to automation in the age of the Internet; European companies and a Bermuda start-up, World insure, are reinventing the application process almost daily. And the property and casualty sector has had to come to terms with the continuing problem of enormous amounts of excess capital doggedly sloshing around the market. No amount of capital dividends or storm losses, it seems, will find a new home for the $100 billion many estimate the property and casualty market has but cannot use. Annuity & Life Re and its almost instant success provided the spark.

Ace subsidiary Tempest Reinsurance expanded into life, health, and annuity reinsurance last year. It appointed Kin K. Gee to the new position of chief life and health officer last June. Ace Tempest Life Reinsurance, as the life division is named, then hired An Lindner as its life actuary.

Ace says it has already begun working toward offering primary life and health insurance products itself next year, when its agreement not to compete with Cigna expires. Ace had entered into the agreement after buying Cigna's property and casualty operations in July 1999. Ace is looking forward to "hitting the ground running," developing strategies and carrying Out analysis in preparation for the new insurance offerings, says a company spokesman. Kingsley Schubert will head the new life operations; his title has yet to be confirmed. Life and health insurance products will maintain Ace's strategy of "continued diversification," chairman and chief executive officer Brian Duperreault says.

New Growth in Life

The WMA Corporation has grown its life business in Bermuda almost as spectacularly as Annuity & Life. WMA, whose executive offices are located in Duluth, Georgia, is the parent of WMA Life Insurance, a Bermuda life reinsurer. WMA Life Insurance had nearly $9.4 billion of life reinsurance in force and $310 million of annuity contract benefits in force on December 31, 2000. WMA Life reinsures more than 340,000 life insurance policies, riders, and annuity contracts.

Growth in revenues at WMA has been primarily attributable to the growth in reinsurance premiums on WMA Life's variable universal life reinsurance business. WMA Life reinsures life insurance policies and annuities sold by a network of independent agents associated with World Marketing Alliance, which operates an international financial services sales and marketing organization. WMA Life realized a 14 percent increase in life insurance policies and riders reinsured during 2000 and a 79 percent increase in the number of annuity policies in force.

"While 2000 proved to be a challenging year for business, the start of this new millennium may go down as one of the most exciting and profitable times in WMA Corporation history," says chairman and chief executive officer S. Hubert Humphrey, Jr.

Perhaps the most visible life reinsurer in Bermuda in the past 12 months has been Max Re, which has introduced a new investment paradigm to the insurance industry. More than half the book at Max Re, which is barely 18 months old, is life and health reinsurance-related.

Max Re successfully launched a business model pioneered by a company to be called Gemini Re, which never got off the ground. Gemini was to have been managed by former Centre Re chief executive David Brown and former Bermuda Finance Minister Grant Gibbons, who were unable to agree to terms and get their business started.

The Max Re model is unusual in two ways: the investors to whom it appeals and the way in which their premiums are invested. Max Re, masterminded by former XL Capital executive Bob Cooney, raised $511 million in two private placement offerings last year. About 40 percent, some $213 million, came from high net worth individuals, who invested a minimum of $5 million each.

Max Re's largest shareholder is Moore Capital, the hedge fund manager Max Re has invested 40 percent of its $850 million portfolio in hedge funds managed by Moore. The idea of investing insurance premiums at such comparative risk is more than nontraditional; it amounts to heresy in the conservative insurance industry.

U.S. investors, however, have found Max Re to be an innovative way to participate in the hedge fund markets without the necessity to pay income taxes annually on realized profits. Profits made on Max Re stock are only taxable, and then at lower capital gains rates, when sold. Should Max Re's returns exceed industry norms, which is the proposed outcome of investing premiums in hedge funds, investors will see a double benefit in an increased share price and lower taxation.

Insurers are exempt from registering as investment companies under U.S. securities laws and need not therefore distribute profits annually. Nor are they taxed as investment vehicles under the Internal Revenue Service code.

Overseas insurers were exempted when Congress passed the Passive Foreign Investment Companies section of the IRS code in 1986, requiring offshore companies whose principal activity is investing, to be treated for U.S. tax purposes in the same way as domestic investment funds. A U.S. citizen who invests in a foreign insurance company pays no tax on his share of investment gains, provided the company's investments are considered a by-product of its core insurance business.

Max Re appears to have passed that crucial test. The company wrote $401 million of net premiums in its first year, 70 percent of it life and annuity business; its investment income was only 10 percent of that figure.

Imitation of Life

Not surprisingly, Max Re's success has spawned imitators. First off the block was Hampton Re, for whom J.P. Morgan is among the principal hackers, with the Morgan Guarantee Bank providing the credit facility for both the line of credit and letter of credit capacity. Hampton Re has raised about $170 million from IPOs and hopes to raise another $200 million to $300 million by year's end.

"Our focus is block life transactions," says president and chief executive officer Bill Walker. The company has already completed 15 such transactions. Walker completed 30 similar deals during eight years at Hannover in .the United States. That unit grew from $50 million in assets and $10 million in premiums to $2 billion in assets and $1.25 billion in premiums in the process. "On the strength of that success, I guess J.P. Morgan wanted me to repeat that business model for them in Bermuda," Walker says. Hampton Re differs from Max Re, in that it will not invest premiums in hedge funds, only investors' capital.

Four new companies working from the same plan are in line behind Max Re and Hampton Re, of which Hamilton Harbour Re is at the most advanced stage of incorporation.

Fixed-income hedge fund manager and Bear Stearns veteran William Michael runs Select Reinsurance, a $200 million Bermuda reinsurer. Futures trading house Commodities Corp.. now owned by Goldman, Sachs & Co., manages half the assets of Bermuda reinsurer Stockton Re. The $2.1 billion New York-based hedge fund holding company Asset Alliance is slated to start Asset Alliance Re, a Bermuda-based reinsurance company, before year's end.

Another Bermuda start-up, Imagine Re, is writing contracts in both the life and annuity and property and casualty sectors. Term life, variable annuities, universal life, and corporate-owned life and disability products are the likeliest areas of focus on the life and annuity side.

"I don't want to speak for any of the other life reinsurance companies that have set up (in Bermuda)," says Ace Tempest Re's Lindner, "but it seems to me that everyone has come here with a different plan. Nobody is going to come here and be a Swiss Re or a Transamerica, the huge shops with massive back office support. We all seem to be trying to cash in on niche markets with a very specialized type of life, health and annuity business."

COPYRIGHT 2001 Axon Group

COPYRIGHT 2001 Gale Group