Alt Investments
EXCLUSIVE INTERVIEW: Insuring Asset Managers After EU Regulatory Tsunami

Apsley, the insurance firm working with alternative asset management firms, says the area of indemnity insurance becomes acute in the aftermath of sweeping EU rules that are coming into force. It spoke to this publication about the market.
Apsley is an underwriting firm that is focused only on the asset management sector, particularly in alternative sectors such as hedge funds and private equity. With the advent of the European Union’s Alternative Investment Fund Managers Directive, the issue of insuring firms becomes ever more important and complicated. This publication recently interviewed James Lawrie, who is head of asset management underwriting at Apsley, about its business, the AIFMD, and the regulatory climate in which this firm operates.
Could you explain the requirement of the AIFMD as it
applies to insurance? What must fund managers do?
The new regulation sets out that AIFMs [alternative investment
fund managers] must decide either to buy professional indemnity
insurance (also known as errors and omissions insurance) or
retain additional own funds in order to provide a buffer against
potential liabilities. The deadline is 22 July 2014, by which
time asset managers will have to have submitted a variation of
permission form to their national regulator. Should a manager
wish to use insurance in order to comply with the directive they
should ensure that they have an AIFMD compliant policy in place
ahead of the deadline.
How much liability risk insurance must managers have, at
least at the minimum?
As well as setting out that AIFM’s must either buy insurance or
hold additional own funds, the directive also enshrines as
mechanism for calculating how much insurance an AIFM must buy in
order to be compliant. The requirement is that an AIFM buys a
limit of liability equal to 0.7 per cent of the total asset value
of the AIF for individual claims, and 0.9 per cent of the total
asset value of the AIF in aggregate per year.
What sort of liabilities are we talking about (investment
losses, losses caused by other factors, etc, etc)?
The potential liabilities tend to fall into one of three
categories; operational, legal and regulatory. We see these risks
as having different characteristics in terms of frequency and
severity. In reality operational risk is a catch all term which
encompasses all those non-investment risks which an asset manager
assumes. These are the risks for which end investors are not
compensated for taking and which the asset manager could transfer
with insurance.
How large, potentially, are the liabilities to which
managers are prone?
This is difficult to quantify as liabilities are not capped.
Given the nature of these types of losses they rarely make it in
to the public arena. We have seen some large losses as well as
some very significant levels of defence costs incurred in seeking
to repudiate a potential liability.
What used to be the situation before AIFMD? Are there
examples of things going wrong? What prompted EU legislators to
make the change?
Prior to the implantation of AIFMD there was no requirement for
alternative asset managers to buy professional indemnity
insurance. This is in contrast to various other professions
(solicitors, surveyors, accountants) where requirements are
imposed either by a regulatory body or professional trade
association. AIFMD as a whole is a reaction to the events of 2008
and the perception that there was a regulatory gap for
alternative asset managers which needed to be plugged. Whilst
events post-Lehman saw many hedge funds suffer poor performance,
redemptions and ultimately closure, it is difficult to point to a
specific catalyst that prompted regulatory change.
Where does this new requirement leave the end-client in
terms of likely returns and fees?
The requirement is for the AIFM to pay a premium for insurance
cover would ordinarily come out of management fees and general
expenses of the firm. It is clear that increased regulatory cost
is a reality for AIFMs and they will have to assess how they
absorb these. Generally there is downward fee pressure on
managers and we don’t expect to see them rise as a result of
insurance nor do we expect a drag on performance in terms of
increased expense ratios. We do, however, see end investors
becoming increasingly interested in what insurance an AIFM has in
place to protect investor assets in the event of a loss.
What sort of business interest has your firm seen? What
sort of managers are you dealing with? Any indication as to the
size of business (millions, billions)?
We have dealt with a range of managers, from start-ups to well
established multi-billion dollar firms. In terms of which
managers will choose insurance versus own funds, this is still
somewhat unknown until we get to the deadline on 22 July.
Certainly most managers we have spoken to are fully cognisant of the decision they are going to have to make in the run-up to the July deadline. We have seen some larger managers elect to hold additional own funds as the size of insurance limit they would have to buy is very large and can be difficult to attain.
When did your firm first notice the
opportunity?
AIFMD itself has had a long gestation period, stemming as it does
from the events of 2008. The directive as a whole has been
heavily debated by all sides as it made its passage through the
European legislative process and has certainly brought a greater
spotlight on insurance. It does not, necessarily, mean that the
market size will increase markedly as many managers already buy
insurance and those that don’t may chose to hold additional own
funds.
How does this area of business fit with the rest of what
the firm does? Will you need to take on added staff, or deploy
more resources, or switch from other areas?
Our sole focus is the asset management sector, with a particular
emphasis on alternative asset managers. So we have been fully
prepared for the increased attention the directive has brought on
to the provision of insurance.
Can you give me a broad overview of how this sort of
regulatory activity is driving your business and that of your
peers?
Clearly there has been a surge in interest, and asset managers
are much more aware of the possibility of using insurance as an
important risk transfer device. This is also beginning to filter
down to the end investors who are recognising that insurance can
serve to protect their assets and are increasingly making
insurance an important part of their due diligence process.