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Global risk rises
February 2007
Paul Melly, International Trade Today
On almost every continent, politics has conspired to produce awkward surprises that have made life more complex for British exporters and the banks and insurers that support their activities. In Venezuela, Bolivia and Ecuador voters have elected governments with a nationalist radical economic agenda. Bolivian president Evo Morales has reasserted government control over the gas sector and now plans to take a similarly assertive line on mining.
Meanwhile, Poland’s idiosyncratic conservative president Lech Kaczynski nominated Slawomir Skrzypek, a former top aide with only 14 months banking experience, to be governor of the central bank.
And in Nigeria, as politics entered the heated pre-electoral period, President Olusegun Obasanjo reshuffled his internationally respected finance minister Ngozi Ikonjo-Iweala, who had played a crucial role in restoring the country’s economic credibility.
Scandal has tinged the standing of South Africa’s African National Congress ruling elite – as in almost any long-serving government. Russia has resorted to the bluntest of diplomatic weapons in its disputes over gas pricing with Ukraine and Belarus.
The Middle East is in arguably its most dangerous condition for decades; and European attempts to ‘constructively engage’ with Iran are now hobbled by the nuclear dispute and the incendiary verbal sallies of President Mahmoud Ahmadinejad.
Algeria has advanced and retreated on the liberalisation of oil development. Even in south-east Asia, generally seen as a byword for emerging market stability, Thailand has experienced a military coup and a bombing.
Comforting notions of a world gradually moving towards an almost universal system of market economics and moderate or democratic government have been shown up as too simplistic and inadequate to describe today’s realities. While there is little sign of old-style socialist central management making a comeback, individual governments often feel the need to take an interventionist line to deal with particular issues – not least, occasionally, the outright failure of foreign investors to meet their commitments.
Meanwhile, in many countries political violence is an ever present threat.
In these circumstances, it is hardly unexpected that demand for political risk insurance is buoyant, as exporters and investors clamour to secure payment arrangements for major contracts and protect the status of their international projects.
But what may surprise, against the background of the testing world environment, is the readiness of private sector political risk insurers to take on extra business, underwriting more and larger transactions for longer periods of exposure.
‘The political risk market is in a bullish mood at present. Demand for cover is strong and there is plenty of insurance capacity in the market,’ says Charles Berry, chairman of BPL-Global, a leading insurance broker specialising in emerging market risk.
‘Recent developments highlight the levels of risk for businesses trading and investing internationally, particularly in emerging economies. Although oil producing countries are benefiting in financial terms from high oil prices, insurers are concerned about the political stability of many of these states.
‘But, with proven underwriting disciplines and favourable cyclical trends in the insurance market, political risk underwriters are feeling confident and the annual renewal of reinsurance treaties for 2007 has increased the market’s overall capacity. ‘Cover for individual trade deals or investments is, of course, priced on a deal-bydeal basis. But, in broad terms, one can say that premium rates are actually on a gentle downward trend.’
The Zurich group has raised the maximum ceiling for insuring an individual political risk transaction to $100m, explained Dan Riordan, managing director of the Washington DC-based political and trade risk division. Zurich will agree to provide cover for exposures that may last as long as 15 years. (It is interesting to note that limits for trade credit deals – ie, the risk of commercial payment failure by a foreign business buyer or bank – are more cautious, if still increased, at $35m, for a maximum of seven years).
Meanwhile, the French specialist underwriter Unistrat – a subsidiary of credit insurance giant Coface – sets a maximum cover period of five years for merchandise export deals and 10 years for foreign investments. But it no longer publishes a standard limit on the maximum value of transaction that it will cover; instead, this depends on the terms of the individual policy put together for an exporter or investor client.
Such a bullish underwriting approach by political risk insurers comes on the back of encouraging past growth.
Riordan said: 'The year 2006 was our biggest to date, with a 17 per cent increase over 2005. Now 2007 is off to a good start, with a healthy pipeline of new business in political risk and trade credit insurance. We anticipate large deals in infrastructure in 2007.'
Unistrat has entered the New Year from a similarly encouraging perspective. The key driver for growth in insurance activity is, above all, the increased importance of emerging countries as part of the world economy. There are often political risks attached, but they are major trade players who cannot be ignored as either markets or sources of supply.
Of course, China and India are the giants, followed by the likes of Mexico, Brazil, Turkey and Saudi Arabia. But even many low-income economies in Sub-Saharan Africa are now expanding steadily.
Another contributor to the expanding role of political risk insurers is the increased cautiousness among official export credit agencies (ECAs). Traditionally owned or backed by governments, the agencies took a more adventurous line than many private sector underwriters.
But this is no longer always the case. Indeed, in some instances the private insurers are providing extra underwriting capacity to complement the ECAs on particular deals or even reinsuring chunks of the official agencies’ risk portfolios. For example, in September 2006 Zurich agreed to reinsure $77-141m of Indonesian business for Atradius, in its capacity as The Netherlands ECA, so that the agency could cover more Dutch exports to this important but sometimes difficult Asian market.
Meanwhile, the private sector insurers also find themselves taking on a broader spread of business in technical terms.
In the days when much of the world was managed on centralised state-socialist lines, or maintained official exchange controls, the critical element of risk in a buyer country was frequently embodied by the state itself – through public sector banks and the government’s system for allocating foreign exchange (for which local buyers had to queue before sending payments to foreign suppliers).
But that has changed with the gradual advance of liberal economic ideas. These days, most governments no longer seek to control foreign currency supply: dollars or euros are usually available to local buyers, if at a market price.
On the other hand, amidst economic crisis or after a slide in the value of the national currency, the individual buyers may no longer be able to afford to service foreign payment obligations at a new exchange rate. Their failure to do so, as individual businesses, is technically classified as ‘trade credit’ rather than ‘political’ risk. So insurers frequently find that customers require cover that combines protection against both the full array of political factors and against normal commercial risks.
For the insurers, this represents extra business, but also a practical challenge in capacity terms. For growth is one thing. Managing it securely is another.
That is where the role of careful risk selection and management comes in. Unistrat, for example, maintains a notably broad portfolio. Its largest geographical exposure is to Asia and Oceania – yet even that represents only 24.9 per cent of the company’s underwriting book (with the Middle East accounting for 18.8 per cent, Western Europe 14.2 per cent, eastern Europe 13.9 per cent, Sub-Saharan Africa 13 per cent, Latin America 7. 5 per cent, the Maghreb six per cent and North America 0.9 per cent.). In industry terms, banks – a special case – account for a third of the portfolio, but the balance is widely spread.
Premium rates continue to gently decline because of the abundance of underwriting capacity in the market. But it is careful management and risk selection that allows insurers specialising in emerging markets to live comfortably with this trend, despite the fact that levels of political risk around the world are high.
