Uncertainty over sanctions compliance among insurers has been re-awakened by the crisis in Russia and Ukraine, but the political risk and trade credit market is making progress on the issue, writes Freddie Heritage.
For insurers, sanctions have become a growing cause for concern. Sanctions imposed on Russia and Ukraine, that are the result of the political crisis in Crimea and eastern Ukraine, have so far dominated the 2014 news agenda. The threat of further regulatory action in the region is still making insurers nervous: “We aren’t writing any Russian or Ukrainian business for the time being,” one underwriter confessed to GTR.
Meanwhile, the US$8.98736bn that BNP Paribas recently agreed to pay following its guilty plea to violating US sanctions is a warning to lenders and reminds insurers that the issue can impact organisations of any size and influence.
As a result, insurers are coming together to equip themselves with the relevant tools to be able to protect policies from the sceptre of more stringent sanctions.
The model sanctions “exclusion clause”, introduced by the Lloyd’s Market Association (LMA) in conjunction with the International Underwriting Association (IUA), has been widely used in policies, where appropriate, since around 2010. In the context of Russian and Ukrainian sanctions, however, the political risk and trade credit market is realising the limitations of that clause.
Over the last year, in response to an increasing demand from insureds, GTR understands that a representative business panel in the LMA for Lloyd’s underwriters in political risk and trade credit has been working to develop a market-specific sanctions clause that will better suit the market and its clients. A meeting was held in London on July 15 between the panel and a cross-section of political risk and trade credit market stakeholders, with underwriters from both Lloyd’s syndicates and company market insurers alongside brokers. Suggesting the meeting was a success, one attendee told GTR that the market is close to agreeing the language of the new clause.
As methods of geo-political chest-beating go, sanctions are en vogue. Between 1945 and 1990, the UN Security Council imposed sanctions regimes under Article 16 of the UN Charter just twice, but since the end of the Cold War, their use has become far more prolific and tailored. So-called ‘smart sanctions’ now strategically freeze certain areas of a rogue state’s economy, or prevent certain individuals from engaging in business.
The results of a recent Clyde & Co survey demonstrate why sanctions have become a troublesome regulatory issue for the political risk and trade credit insurance market. Of 119 respondent commodity trading companies and trade financiers over half (52%) revealed that their trade operations had been materially impacted by sanctions.
According to the survey, internal caution due to the lack of clarity surrounding sanctions law is the principle factor impacting 56% of companies’ ability to trade: the existence of sanctions alone is enough to put them off. For those companies that pluck up the courage to go further and gain access to trade finance, around a third (30.5%) are unable to secure an insurance policy.
Rupert Cutler, CEO at broker Newman Martin and Buchan (NMB), believes the crisis in Crimea and the targeted sanctions against Russian and Ukrainian specially designated nationals (SDNs) further confuses insurers – adding to an endemic lack of clarity surrounding sanctions.
“At the height of the crisis, most markets wouldn’t offer insurance because they didn’t know what was going to happen, and it’s been very effective,” he says. “As an industry, we are as conscious of sanctions as anyone else, but when you need to keep track of a situation that’s constantly changing, and you need to know who the SDNs are and what they own, it’s difficult.”
Nick Hedley, an underwriter at LAU Europe, agrees that the level of uncertainty surrounding sanctions has increased since Crimea. “Our view is that the sanctions ‘dial’ could get turned up at any moment,” he says.
“Sanctions can be drafted so broadly. A conspiracy theorist would say the regulators want to leave themselves the widest possible wriggle-room to decide – with the benefit of hindsight that was not available to the underwriter – whether or not to pursue a firm for breach of sanctions. As initially modest sanctions get ratcheted up as the political situation escalates, the underwriter will tend to shun future business without being certain as to what is prohibited and what is allowed.”
The scope of Russian sanctions has so far been limited when compared with the regime imposed on Iran, but it is the fluidity of the political situation that potentially holds the greatest consequence for insurers.
“It all depends on the politics,” says Mike Roderick, a partner specialising in insurance law and commercial dispute resolution at Clyde & Co. “The political and trade credit risk market is very concerned that the Russians will take counter-measures against organisations with a presence in Russia. So despite the sanctions themselves being quite limited, there remains a great deal of uncertainty and the stakes are high.”
The stakes are even higher for the future of Euro-Russian trade. In 2013, 44% of OECD Europe’s net crude and product imports came from Russia, representing 57% of the Russian crude and product exports market.
The need for greater clarity has been growing among some insurers, particularly with regards to the risk of an insurance policy itself becoming in breach of sanctions. “We shouldn’t have to worry about being in breach of sanctions when a client comes to us with a claim,” says Hedley. “If an insured is caught up in sanctions which they bought insurance to protect themselves against in the first place, then the insurance should pay. There needs to be greater clarity about whether the insurance itself could somehow violate sanctions.”
So long as most sanctions in Russia and Ukraine remain list-based – targeting SDNs and specific entities – the majority of political risk and trade credit business can be legitimately underwritten, but NMB’s Cutler admits that performing the necessary due diligence to guarantee a policy won’t be in breach, especially when the situation can change quickly, is something that many insurers simply won’t be able to do and will get caught.
“A lot of companies don’t know what they’ve done wrong until they get fined,” he says. “There was once a Turkish pipeline insured on the terrorism market that just so happened to have Iranian oil in it. When the claim came, insurers were unable to compensate because the pipeline was effectively sanctions-busting. That’s how broad it can be.”
The “just too difficult” pile
Of the plethora of sanctions regimes currently in place, none has had more of an impact on the insurance market than that imposed on Iran, which not only has been the most wide-ranging, but also targets trade specifically.
Since 2006, the UN Security Council has imposed economic sanctions on Iran on four occasions in relation to the country’s lack of full compliance with the International Atomic Energy Agency’s requests to stop its activities related to uranium enrichment.
But Iran has also seen the extension of unilateral extraterritorial regimes, led by the US, which has principally targeted Iranian exports of oil and natural gas by illegalising the services which finance them.
“There are provisions in the sanctions against Iran which say it’s prohibited to provide insurance or reinsurance related to Iran,” says Roderick. “Undoubtedly it has had the greatest impact.”
“Sanctioning marine insurance in particular has been very effective in Iran,” agrees Cutler. “If you haven’t got insurance you can’t sail a vessel, so Iranian vessels were effectively stopped from trading.”
The Joint Plan of Action (JPA), signed in November 2013 between Iran and the US, Russia, China, the UK, France and Germany, initiated a six-month reduction in the severity of economic sanctions on Iran for the first half of 2014.
Designed as a trial-run to pave the way towards the loosening of trade restrictions in the long term, the relaxation period, which ends on July 20, has done little to assuage the attitude of insurers towards Iranian risks.
“The six-month relaxation period agreed as part of the JPA has been a bit of a non-event, for the London market anyway,” says Roderick. “It remains to be seen what will happen after July, but the fact that most policies are for at least 12 months means trying to fit it in mid-way through a contract is not exactly straightforward.”
“And there’s also the issue of claims,” he says. “If you have a claim during the relaxation period but you don’t hear about it until after July 20 when the period ends – is it sanctioned or isn’t it? Most insurers put it in the ‘just too difficult’ pile.”
One of the main consequences of the breadth of sanctions in Iran is that insurers simply avoid sanctioned countries or areas altogether, and business that could legitimately be underwritten is lost: the “chilling” impact of sanctions according to Clyde & Co’s survey. It found that despite the majority (78.6%) of respondents saying they’d be interested in trade with Iran if un-prohibited, the threat of secondary sanctions would prevent them from doing so.
A common approach
Over the last year, Lloyd’s has been asking insurers’ managing agencies to review their sanctions compliance procedures. The market-wide roll-out of the Lloyd’s sanctions and financial crime review, was due to conclude by June 2014 but it is not yet complete. Lloyd’s plans to issue updated market-wide compliance guidance when it is.
Head of underwriting at the LMA, Neil Smith, tells GTR: “Preliminary feedback to the LMA and managing agencies is that there is a high level of awareness and expertise relating to sanctions law and regulation, and widespread use of automated screening solutions and other compliance procedures.”
But the issue has been catapulted to the top of the agenda for the political risk and trade credit market because of the situation in Russia and Ukraine.
“Any insurer who’s prepared to underwrite risk involving Russia and Ukraine will be insisting on a sanctions clause being implemented into that policy,” says James Bamford, head of war terrorism and political risk at Talbot syndicate, and member of the market-specific LMA business panel. “The original clause is very good but it’s written as an umbrella clause for a multitude of risks and business lines.”
Insureds themselves have been pushing political risk and trade credit insurers to come up with a revised clause. Faced with the prospect of having the general insurance market’s sanctions clause attached to any policy they buy, insureds have been taking a closer look at the wording to ensure their requirements are met.
“In the political risk and trade credit business, which does actually cover the imposition of sanctions, some insureds don’t like the interpretation of that clause,” explains Bamford. “They find it hard to accept from the way it’s drafted that they would still have the full benefit of the policy: given that a sanction could be imposed on the country of risk, or the counterparty, or whomever.”
The market is taking matters into its own hands. For the last year, according to Bamford, the panel has been developing a revised clause, specific to political risk and trade credit, which will be more acceptable for underwriters and their clients.
“There’s a high demand for it,” he says. “It’s something that’s been discussed for a while and it was decided that we need to try to provide a clause that was more suited to our needs.”
The wording of the new clause has not yet been agreed, Bamford says. The complexity of trying to satisfy the concerns of all counterparties, not just the insurers, has taken longer than was envisaged by the LMA panel.
“Everybody has an interest in getting the clause agreed as quickly as possible, but it needs to be finalised in the right format,” says Bamford, as underwriters remain aware of the possibility of more stringent regulation and subsequent penalties from regulators like the Office of Foreign Assets Control (OFAC).
However, the meeting on July 15 marked significant progress in the discussion, according to one attendee. GTR understands that the LMA has provided political risk and trade credit brokers with draft language for the proposed new sanctions clause. Brokers are hereafter liaising with clients and the LMA to come up with potential revisions and to speed up the process of ratifying the new clause.
“Working towards this clause makes a clear statement of intent: that insureds are not put in a position where they will be in breach of sanctions themselves,” adds Bamford.