The notes introduce the way Lloyd's Names can put up capital as letters of credit to take advantage of the double use of assets. My understanding is that by lodging their assets as collateral with the bank they can negotiate a lower fee for the LoC, and then also pocket the investment return made through the managing agent's investments of those assets. However wouldn't it be best for Names to simply provide their capital in the form of assets, thus earning the same return but also avoiding paying the fee to the bank that issues the LoC? Also, if the Name has only put up capital in the form of an LoC, how can the managing agent actually invest that? Thanks
FAL could include fixed assets, such as property. So of course it's not feasible to lodge these with either the bank or with Lloyd's. In this example though, it is very feasible to earn a return on the property (by renting it out, say), as well as earning a profit from Lloyd's. The fee for the LoC is pretty cheap in comparison, so you'd get a much higher return this way. We're talking here about FAL. The managing agent doesn't invest this at all, it's only held in trust by Lloyd's as a "back-up". Instead, the managing agent manages the PTF (ie it accepts premiums, earns investment return on those premiums, and pays claims and expenses. Then any money left in the PTF at the end of 3 years (after RITC) is returned to the Name as profit. So the double use of assets is the sum of: return on assets (net of the cost of LoC) profits from writing insurance business.
Thanks for the reply, Katherine. It makes a bit more sense now. It was my interpretation of the Core Reading that was incorrect. One query though - at the bottom of page 31 of Chapter 2 it says "Because its assets aren't backing the business, the Name should be able to get a better rate of return on them. It can also separtely make a return on its FAL". How is the Name able to make a return on its FAL? Does Lloyd's invest the FAL or something? Thanks again.
Any asset which is used as security will be less available for use elsewhere. Imagine I were to lend you money (in exchange for a return), but told you I might need it back at any moment in order to pay for something else - you wouldn't want to give me such a high return. When it says that the Name makes a return on its FAL, it means that the Name makes a return from the insurance business written. I rather think you're over-complicating this. With the exam so close I'd say it's better to concentrate on the more examinable topics I should think.
No problem. It was more out of curiosity of the attraction of investing at Lloyd's than thinking it would come up in the exam! Thanks for the reply.
