Risky Business: An Insider's Account of the Disaster at Lloyd's of London.

Risky Business: An Insider's Account of the Disaster at Lloyd's of London 

Martin Mayer and Elizabeth Luessenhop Simon & Schuster, $25

You may know Lloyd's of London as the venerable, old-line British insurance house where the employees wear red tailcoats with brass buttons and where policies are written on all sorts of oddball risks that no one else has the imagination to insure: Betty Grable's legs, Bob Feller's fastball, the Space Shuttle, offshore oil rigs, and the Dallas Cowboys. This is the quaint Lloyd's of commercial legend: the company that would insure anything, and make money on it; the company that, out of its own deep sense of honor and tradition, never failed to pay off a claim.

This is also the company that is now plunged into a desperate scandal that is already counted in the tens of billions of dollars. It may soon enough destroy one of the world's oldest and most successful commercial institutions. Thousands of investors have already been mined, and the lawsuits, claims, and counterclaims against Lloyd's, its agencies, managing companies, and brokers have become thickly layered and intricately interlaced. How Lloyd's fell--from the world's most respected insurance underwriter in 1980 to the blundering scapegrace we see today--is the subject of Risky Business: An Insider's Account of the Disaster at Lloyd's of London by Martin Mayer and Elizabeth Luessenhop.

Luessenhop is indeed an "insider," one of the thousands of American sponsors of Lloyd's insurance syndicates who lost money, and she is out to expose the perpetrators. Martin Mayer is the veteran financial writer whose book The Bankers is one of the best primers ever written on the banking industry. At its best, Risky Business cracks along in a clean, friendly narrative style. At its worst, which is not infrequent, the authors indulge at length in the sort of adversarial and highly complex legal minutiae one might expect from an "insider" in several of the lawsuits against Lloyd's. But Luessenhop and Mayer do not claim to be neutral or objective; they aim to show how $29 billion in insurance liabilities got hung on 33,000 people who will never be able to pay them off, and how Lloyd's has lost enough to wipe out all of its profits since World War II. The tale, regardless of an occasionally bumpy narrative, is still riveting.

It begins with what most of us would consider financial legerdemain: the way wealthy investors made money by putting up the capital behind the insurance policies that Lloyd's wrote. The "Names"--as the investors are known--didn't really invest anything at all. They merely pledged their assets, while the assets themselves--stocks, bonds, or land--continued to make money. "The new Name very visibly got something for nothing," write Mayer and Luessenhop. "You, not the bank and not Lloyd's, continued to own the stocks and bonds or CDs you had deposited as collateral ... You continued to receive the dividends and interest on your securities, and if their price went up, you got the benefit. You kept your investments, and you made something extra by using them as collateral at the same time." In some years the income the Names received from Lloyd's actually exceeded their income on pledged investments. It was a classic double dip, one that the landed classes in England have found hugely profitable for several hundred years.

The only way Names could lose money was if their insurance syndicate was forced to pay out more in claims than it took in as premiums. That had happened so rarely, and the amounts involved were historically so small, that Names tended to forget the one annoying little clause in their agreement with Lloyd's. According to their agreement, they not only pledged specific assets, they also assumed "unlimited liability" for claims made against Lloyd's by its customers.

Unlimited liability is an interesting concept, particularly when applied to thousands of middle and upper-middle class investors from the United Kingdom, Canada, and the United States--including Supreme Court Justice Stephen Breyer--who became Names at Lloyd's syndicates that had insured such clients as industrial polluters and makers of asbestos. (Luessenhop's syndicate specialized in insurance for toxic waste, product liability, and malpractice insurance.) Unlimited liability means that investors personally have to make good on never-ending, multibillion-dollar claims against Lloyd's by victims of asbestosis, for example; it means that they are directly liable for every penny owed, even if it means sacrificing every piece of property they own. The claims, according to the authors, arrive in the form of urgent "cash calls" that continue until the Name is bankrupt. The Name can never leave the syndicate and is essentially forever liable (beyond death, as well, since estates are then raided to satisfy calls) for unlimited amounts of money.

Such calls began in earnest in 1991 and have continued unabated since then. In 1993, for example, Lloyd's had $4.5 billion in losses, all to be made good by the poor Names. At least 30 Names--and possibly many more--have committed suicide because of their losse. These losses were the outcome of imprudent risks--risks, as with asbestosis, that often resulted in claims over many years or decades.

These losses also arose from a "reinsurance spiral" that resulted in billions of dollars of liability. Reinsurance is typically bought by an insurance company wanting to lay off some of the risk it has taken; reinsurers themselves can then lay off the risk, ad infinitum, in a process called "retrocession." Lloyd's did this compulsively and incestuously, reinsuring itself through its own syndicates. Syndicates were even reinsuring each other. The problem is that, when a multibillion-dollar liability comes home to roost, it tends to endanger all the syndicates involved in insurance and reinsurance. The 1980s were unfortunately rich in the sort of catastrophes that create huge damages: earthquakes, hurricanes, air crashes, oil rig fires, and product liability cases. Lloyd's syndicates, in their Pollyanna-ish way, had jumped in to underwrite such policies with both feet and, as the bad news mounted (and their fees as well), steadfastly delivered only good news to their investors and sponsors. It was apparently in no one's interest to tell the Names what was going on.

This was all done after Lloyd's had been effectively removed from all outside regulatory supervision in the early 1980s in a way reminiscent of much of the banking and savings and loan industries in the U.S. In Lloyd's case it was even more extreme: The company was allowed to regulate itself.

As Mayer and Luessenhop tell it, Lloyd's losses were not simply a product of management stupidity or of a run of bad luck. The men who ran Lloyd's, they argue, knew precisely what was happening. They knew it so well, in fact, that in the 1980s Lloyd's managers actively recruited thousands of new Names to take on the older risks that had begun to appear quite dangerous, all the while taking fat fees and reserving the lower-risk business for themselves and other insiders. This has been the substance of many lawsuits, including one by 3,000 plaintiffs against a syndicate called Gooda Walker for a claim of $1.3 billion--the largest lawsuit in English history. Though the plaintiffs won that suit, none of them have recovered any money.

Though the worst of the liabilities seem now to be known, there is a serious question of whether Lloyd's can continue to exist. If it goes down, it will be yet another in a long line of victims felled by greed and stupidity. But above all Lloyd's stands as yet another monument to financial deregulation, another warning that even the most venerable financial institution in the world is not immune to the sort of excesses common in the latter twentieth century. If it can happen at Lloyd's, it can happen anywhere.

S.C. Gwynne is the Austin Bureau Chief for Time.