Captive sector examines collateral issues in wake of Vesttoo

BURLINGTON, Vt. – The fallout from the scandal surrounding insurtech Vesttoo Ltd. is a wakeup call for the captive sector and will likely lead to greater regulatory scrutiny of fronting arrangements and collateral options, experts said last week at the Vermont Captive Insurance Association’s 2023 annual conference.

Disclosures that letters of credit issued in transactions involving the online reinsurance intermediary were allegedly fraudulent have prompted captives, fronting insurers and managing general agents to review their collateral options and some may seek alternatives, they said.

Tel Aviv, Israel-based Vesttoo on Monday filed for Chapter 11 bankruptcy protection in Delaware.

The Vesttoo scandal has changed the mindset of many in the industry, including regulators, said Sandy Bigglestone, deputy commissioner of the captive insurance division of the Vermont Department of Financial Regulation in Montpelier.

Ms. Bigglestone and others spoke to Business Insurance on the sidelines of the VCIA meeting.

“Collateral is important. It has to secure losses if it’s needed to pay losses,” Ms. Bigglestone said.

Regulators will ask captive managers and others different questions going forward about collateral, such as the form it takes and what due diligence was conducted related to the collateral, she said.

“Our due diligence and our questions and the way we look at fronting is going to be a little bit different – not overly burdensome on the marketplace, but it has to change to make us comfortable,” she said.

Captive and service providers in the state have 30 days to respond to a July 26 notice sent by the Vermont regulator asking them if they have exposure to Vesttoo.

Governance and compliance of fronting and captive programs are critical, said Steve Bauman, New York-based global programs and captives director, Americas, at Axa XL, a unit of Axa SA.

“This will shake the trees out on who runs global compliance programs with good due diligence and who doesn’t,” Mr. Bauman said. “For any captive program, collateral and security are going to be a big issue.”

Fronting carriers are abundant, said Michael Serricchio, Norwalk, Connecticut-based managing director of Marsh Captive Solutions, a unit of Marsh LLC.

“The situation shines a light on governance in clients and checks and balances. You really need to know who you’re doing business with,” he said.

The number of MGA-owned captives has seen huge growth, and Marsh works with clients to figure out the best approach for collateral, Mr. Serricchio said. “We’ll look at the different forms of collateral set up such as funds withheld, insurance trusts, letters of credit, surety bonds or cash and make an educated decision,” he said.

Issues related to Vesttoo will spark a fallout in the managing general agency sector, said Michael Woodroffe, president of Kirkway International Ltd., a Bermuda-based reinsurance brokerage.

“This is an inflection point for casualty reinsurance pricing. The mystery of persistent reinsurance underpricing in certain sectors is solved,” Mr. Woodroffe said.

Large managing general agents that can take on risk through a captive or another vehicle will be able to adapt to new market conditions, he said.

“Captives and the MGAs market will at the very least investigate and shift to using trusts and other alternatives to letters of credit,” Mr. Woodroffe said.

This is a wakeup call to be careful with collateral, said Jason Tyng, Chicago-based lead of the U.S. captive solutions group at HDI Global Insurance Co., part of HDI Global SE.

When HDI looks at collateral issues “we’re looking at where these monies are going to be held, so if I’ve got a letter of credit on a bank that’s B-rated or a community bank that might not be in business in 10 years, that’s a concern for us,” Mr. Tyng said.

HDI has an internal vetting process it goes through to make sure that the financial institutions it is using “are going to be around and not going to be like Silicon Valley Bank, for example,” he said.

All collateral options should be considered, said Marco Hensel, Chicago-based underwriting lead at HDI Global. “Each one, whether the letter of credit, trust fund, funds withheld, has advantages and disadvantages and comes with different costs,” he said.