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This page contains a single entry from the blog posted on July 7, 2006 2:13 PM.

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Flea-sized markets get prices wrong

Dear Friend,

“Would you like to buy a $20 note for a fiver?"

Sounds too good to be true, doesn’t it? But that’s what our market is saying right now.

Today’s market is producing one of the best underwriting opportunities likely to be available in our lifetimes and it’s all down to a lack of liquidity.

We are in an industry that produces about $200bn a year in premiums.

Now I know this sounds like an awful lot of cash, but over $40bn is traded on the New York Stock Exchange in a single day, (and that doesn’t even include what is traded on Nasdaq or the American stock exchange).

So in volume terms NYSE stock brokers get through a whole year’s worth of reinsurance business in a week — no wonder they all seem to be better paid that their insurance cousins!

But hang on a minute — look at foreign exchange transactions and stock deals start to look microscopic. The traders in the 24-hour global Forex markets notch up an awe-inspiring $1.9 trillion a day – in other words it only takes them two-and-a-half hours to put through what we do in a whole year.

To use an animal metaphor, if Forex is an elephant and stocks and shares are a mouse, reinsurance is a flea on the mouse’s back!

In the jumbo foreign exchange market when you change dollars to euro and yen and back again, you get great deals and tiny transaction costs — when you buy stocks you pay a slighter bigger spread and when you get to reinsurance the costs are vast in comparison.

Have you heard the well known apocryphal story of a private investor who was tipped a hot small-cap mining stock and immediately called his broker an placed a buy order?

The next day he opened his paper and saw that the stock was up 10% — he was feeling very pleased with himself and called his broker and told him to buy some more. The next day the stock was up another 10% so the man bought a little more.

Low and behold, the next day it was up another 10%. Now sitting on a tidy gain and thinking it would be prudent to take a little profit, the guy called his broker with an order to sell.
“But who can I sell the stock to? You’re the only one buying” came the broker’s reply!

Illiquid markets make for massive price swings and mis-pricing. The global retro crunch is the latest in a long line of pricing mismatches thrown up by our business, and it surely won’t be the last.

Admittedly reinsurance is not like money or stocks – all dollars are identical but no two reinsurance deals are the same.

But you get the picture — more liquidity required!

Spare a quiet thought for us here in London – today we are celebrating, (although this hardly seems to be the right word), the first anniversary of the multiple suicide bomb attacks on London’s public transport network.

I can’t believe a year has passed since that awful Thursday morning robbed 48 innocent people of their lives.

We all hope that the events of last summer will never be repeated — but deep down many of us here feel that it is only a matter of time before another attack comes.

We millions of Londoners carry on — life is for living, and despite being near the top of international terror’s wish-list, London is still a great place to be.

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