In November 1998, the FSA issued Consultation Paper 16 on its
approach to its responsibilities under the Financial Services and
Markets Bill relating to Lloyd's. Under the Bill, the FSA is given
reserve powers in relation to Lloyd's, and this paper explains the
extent to which the FSA plans to regulate Lloyd's directly, and the
extent to which it will allow Lloyd's to continue to regulate
itself under either directions from, or monitoring by, the FSA.
The FSA has two principles which will guide its
approach to regulating Lloyd's:
- advising on participation at Lloyd's is to be treated like any
other investment advice, and therefore those that advise others on
whether and how to invest at Lloyd's will need to become
- the 'consumer' at Lloyd's whom FSA needs to exercise its powers
to protect is the policyholder, and the risk which they need to be
protected from is that valid claims may not be paid. To manage this
risk, Lloyd's will be required to exercise its powers under FSA's
The main impact of these principles is that FSA
style regulation and regulatory values, which Lloyd's has attempted
to introduce itself over the last year, will be monitored and, if
necessary, enforced by FSA, especially in relation to prudential
supervision, underwriting strategies and the adequacy of the
monitoring/control of risks.
The Society of Lloyd's itself is to be authorised
by the Bill. In addition, managing agents, members agents and
Lloyd's advisers will require authorisation to the extent to which
they advise on participation at Lloyd's.
Individuals carrying on (to be) specified functions
at the Society and within organisations providing advisory services
will also require authorisation. Members of Lloyd's themselves are
not to be authorised yet, but this will be kept under review by
Whatever grandfathering provisions FSA eventually
decides to use will include authorisation at Lloyd's, and therefore
those who are currently active in the (to be) regulated markets
will be likely to be 'grandfathered' under the new regime. However,
the FSA reserves the right to require a further proof of fitness
and properness by any organisation or individual.
Those who control 10% of the capital or voting
rights of an authorised entity will require prior authorisation
unless grandfathered. Subsequent changes of control will have to be
Prudential supervision of the Lloyd's
The Lloyd's market is unusual in that its make up
includes individual members, who contribute to a Central Fund.
However, the EC solvency requirements and overall policy approach
of the FSA will require a number of layers of prudential
- Lloyd's as a whole must, as a minimum, meet the EC levels
required of insurance undertakings;
- FSA will maintain the 'individual solvency test' for members;
- FSA will continue to impose the 'combined solvency test'
introduced in 1997;
- the Lloyd's Statutory Statement of Business will be amended to
follow more closely the returns submitted by ordinary insurance
companies to HM Treasury;
- FSA is to reassess the Lloyd's risk based capital model to
satisfy itself that it adequately reflects members at risk; and
- FSA will audit the continuing aggregation of risk exercises
undertaken by the Lloyd's Market Risk Units.
However, in relation to the above proposals, FSA is
aware of the complicated nature of the Lloyd's market and remains
open to alternative proposals.
FSA will exercise its powers to require Lloyd's to
make rules for managing agents to protect policyholders (rather
than members of Lloyd's). FSA will consult on the appropriate
capital requirements for managing agents. FSA will only monitor
managing agents in areas where Lloyd's does not do so, and where
Lloyd's does so FSA will satisfy itself that Lloyd's arrangements
Members agents/Lloyd's advisers
Members agents and Lloyd's advisers are to be
supervised by FSA direct, who will make rules for them and monitor
their activities. Lloyd's will be required to make rules relating
to the conduct of capacity auctions (as opposed to the giving of
advice on participation in them). The FSA will consult on
appropriate capital requirements for members agents and Lloyd's
Syndicate capacity market
The FSA has announced that these are unlikely to be
given Recognised Investment Exchange status, and therefore likely
to be regulated by Lloyd's in accordance with rules approved by
FSA. FSA considers it very unlikely that HM Treasury will extend
the market abuse regime to include activities on the syndicate
capacity auction market.
Custodianship and fund management
Funds are managed at Lloyd's in a number of
- by Lloyd's itself. Members' funds held by Lloyd's are to be
subject to the normal FSA custody and administration regime.
Premium funds which are held in accordance with trust deeds
approved by HM Treasury (soon FSA), and which are the equivalent to
the reserves of an ordinary insurance company, are also to fall
under the normal FSA custody and administration regime (rather than
the less onerous investment management rules); and
- by members agents, which are effectively client funds and will
be dealt with under the client money regime.
Investigations, discipline and
FSA will have the full range of powers to gather
information on, intervene in relation to, and discipline those that
it regulates at Lloyd's (including the Society of Lloyd's itself).
In addition, FSA will be responsible for monitoring the
investigations, discipline and enforcement action of Lloyd's
The new regime should bring little change in
relation to the handling of complaints at Lloyd's. Complaints by
policy holders, which currently go to the Investment Ombudsman
Bureau, will go to the new Financial Services Ombudsman Scheme.
Lloyd's Complaints Department will continue to deal with complaints
from policy holders and members who choose to complain to Lloyd's
direct, and its approach and decisions will be monitored by
FSA is still consulting on the compensation regime
to be used at Lloyd's, but its intention is to give policyholders
at Lloyd's a similar level of protection to that afforded to policy
holders of any other insurance undertaking by the Policyholders
Protection Board (and soon, the Financial Services and Markets
Compensation Scheme 'FSMCS'). The FSA considers that the choice is
between continuing to exclude Lloyd's from the industry-wide
compensation arrangements (relying upon the Central Fund) or
allowing policyholders access to the FSMCS to ensure industry-wide
equality if the central fund is unable to meet the claim of a
Lloyd's policyholder (in which case, the FSA would need to consult
on how such a measure should be funded). The FSA does not intend to
allow names access to its compensation arrangements.
HM Treasury Insurance Directorate currently has
around 5 staff working on the regulation of Lloyd's. FSA plans to
expand this to 20 at an extra cost of £1.3m, which would be spread
throughout the Lloyd's market. In addition, there will be increased
compliance costs in order to comply with FSA's new requirements,
and the requirements which FSA will impose on Lloyd's.
However, the introduction of a more rigorous
regulatory regime should improve market confidence and have the
benefit of bringing Lloyd's even further into line with the
standards elsewhere in the financial services industry.