Insurance Linked Securities (“ILS”) are investment instruments whose value is directly related to insurance risk and whose performance is therefore not correlated with other asset classes. This makes ILS attractive to many investors. From the insurer’s perspective ILS represent a means of accessing greater quantities of affordable risk transfer capacity because they are offered directly to capital markets.
Guernsey is becoming a jurisdiction of choice for establishing investment structures that are exposed to ILS. As this article shows, this growth in interest in Guernsey is a result of:
- Guernsey’s status as a domicile of choice for investment funds
- The on-going growth in international insurance entities choosing to domicile in Guernsey
- The ease with which Guernsey vehicles can access capital markets
Carey Olsen’s insurance and investment funds experts have a detailed knowledge of ILS products and risks. Indeed, Carey Olsen is recognised by independent market reports as the market leaders in insurance work in Guernsey and, as a firm, we represent over 50% of investment funds domiciled in Guernsey.
TYPICAL ILS STRUCTURE
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- Investors fund a vehicle which insures a specific risk (usually a low frequency, high severity risk such as US hurricane) in return for a premium;
- the ILS vehicle is on risk for a short period (e.g. the 6 month US hurricane season);
- If no loss occurs during the period, investors receive back the principal amount invested together with the premium charged for accepting the risk, less frictional costs. This can mean a significant return on capital in a very short period. If losses occur investors may lose some or all of their investment.
Guernsey attracts ILS structures because it is an eminently stable jurisdiction with the necessary expertise, the appropriate tools and a suitable regulatory environment.
Since ILS vehicles accept insurance risk they must be licensed to carry on insurance business. Guernsey has a wealth of experience in the regulation of insurers. It is the largest captive insurance domicile in Europe and the fourth largest in the world. There are currently 796 licensed international insurance companies in Guernsey, a growing number of which are involved in ILS.
Guernsey’s famous protected cell company is 17 years old and is a popular choice for ILS vehicles because of its flexibility and the speed with which vehicles can be established and regulated (see below). In 2006, Guernsey introduced incorporated cell companies which are a useful alternative to establishing standalone companies in some circumstances. More information on Guernsey cell companies can be found here.
Timing can be crucial in ILS transactions where the opportunity may only be available for a limited period of time. Consequently, the ability to both establish and fund the ILS vehicle quickly is vital. For that reason Guernsey operates a fast-track approval process for cells of protected cell companies under which ILS cells can be approved to conduct insurance business almost instantly.
Guernsey’s approach to Solvency II, having announced that it would not be seeking equivalence in January 2011, makes the island particularly attractive for ILS structures. This approach provides a matter of comfort rather than being of direct relevance because ILS structures are invariably funded sufficiently to meet 100% of their potential exposure so meeting regulatory solvency requirements is not an issue.
Stock Exchange Listings
Access to capital markets is of fundamental importance to ILS structures and many of them involve listed securities and, often, debt instruments. Guernsey is a pre-eminent jurisdiction for listed securities. More Guernsey entities are listed on the London Stock Exchange than any other jurisdiction globally (excluding the UK). At the end of December 2013 there were 115 Guernsey incorporated entities listed on the main market, alternative investment market and specialist fund market of the London Stock Exchange. This is significantly higher than many leading economies, such as the US (37), Australia and Russia (both 30), India (29), South Africa (8) and well ahead of competitor offshore jurisdictions. The reason for the popularity of Guernsey vehicles for accessing capital markets is the flexibility of Guernsey Companies Law.
Guernsey’s stock exchange, the Channel Islands Securities Exchange, is internationally recognised. In particular, the CISE is designated as a recognised stock exchange by HM Revenue & Customs and so debt instruments listed on the CISE are eligible for the quoted Eurobond exemption from withholding tax.
Guernsey is an important jurisdiction for investment funds with £264billion funds under management, a growth of 5% over the past five years and a total of 830 funds registered in Guernsey. A number of investment funds which target ILS as an asset class have already been established in Guernsey, many of them advised by Carey Olsen.
Since 2000 rapid growth in the establishment of investment funds has led to the introduction of a streamlined regulatory process in Guernsey. Funds can obtain the necessary regulatory approval in Guernsey in just three working days. Speed has been achieved without sacrificing quality by permitting locally regulated fund administrators to self-certify new investment funds in a similar way to which insurance managers can self-certify protected cells conducting ILS transactions.
The maintenance of robust regulation of Guernsey investment funds has enabled the jurisdiction to address head-on the threat posed by the Alternative Investment Fund Managers Directive (“AIFMD”). In the last few years, Guernsey has signed co-operation agreements with the competent authorities of 27 of the 31 European Economic Area states. Accordingly, Guernsey funds and Guernsey fund managers can continue to market non-EU alternative investment funds in the EEA under existing national private placement regimes. Guernsey is also well placed to achieve recognition as an EEA-equivalent jurisdiction once the AIFMD regime is extended to third countries from July 2015.