What does this mean for crime and D&O insurance?
As the light at the end of the Covid-19 tunnel comes into view, what can we expect when we return to the office? Unfortunately, times of uncertainty tend to also be the times of higher fraud and also times of blame.
To look to the closest analogy, we have in recent times, the 2008 financial crisis is the nearest we have to an unprecedented event such as the Covid-19 crisis. When times were good mistakes and irregularities tended to be overlooked especially in the banking sector. As the liquidity crisis started to hit home it required everyone to open their books and see what their real position was. What they saw was often a mess of poor control and lax lending / borrowing. In the good times, controls had dropped – we need only look to USA where the practice of NINJA (No Income, No Job or Assets) or Self Certified loans was running rampant leading to systematic fraud and the collapse of several famous banks in the country. In UK there was a thriving industry in defrauding banks on Buy to Let loans which also brought down some venerable old names. Generally loan fraud was running rampant in the Western banking system.
The rise of crime and D&O policies for banks in CEE
In my own experience of dealing with banks in Central and Eastern Europe this was a time of increased claims on the Crime polices of the banks, a lot of things that would be overlooked in the past were now being looked at more closely and the number of fraud claims tripled in just one year. The amounts were relatively large and showed that there had been lip service paid to lending controls and controls around accounts of wealthy clients.
There was also the first real increase in litigation against banks and commercial entities as lenders and shareholders looked for somebody to blame. When money is lost there is always someone whose fault it is, particularly when investment companies are involved. This led to the start of the interest in Directors and Officers insurance on a large scale in CEE.
So what can we expect in the coming year as the economies open up?
Given past events we would expect to see the discovery of more frauds. The average timeline of a major fraud in a bank is around 18 months, so if we look at July as being a realistic time for most controls to be released then this will mean that the whole of the Crisis from the first lockdown onwards will almost exactly match this timeline. The lack of supervision whilst working from home will have tempted some to try to defraud their employer (statistically around 0.2-0.5% of employees are committing fraud at any given time, mostly petty), combine this with the uncertainty around whether there will be jobs to return to and you have a potent mix for crime to flourish. We can also add to this the fact that desperate businesses may have been susceptible to paying ‘gratuities’ to helpful loan officers – a very common form of employee infidelity.
As businesses survey the wreckage of the past 18 months they will also have a battle for survival. Investors will try to minimize their losses and are likely to resort to litigation when there is no other option. This will likely take the form of looking into decisions made by the boards in the run up to and during the lockdowns (Did they close too early? Were they too cautious? Did they not move quickly enough to take advantage of the new normal?). It should also be remembered that Liquidators see a Directors and Officers policy as an asset of the company.
More frauds to be discovered after the Covid-19 crisis
In conclusion, if we see a similar trend as in 2008, then we will expect an increase in events which can be covered by Crime and D&O insurance. There is no reason to doubt that this will be the case as the underlying issues are similar in that a strong worldwide economy was moving towards recession and a devastating event pushed it over the edge. The liquidity crisis of 2007 onwards came from a lack of trust forming as recession started to appear on the horizon, Covid-19 struck just as the fundamentals were turning as well. Policies in boom times by their nature are more lax than desirable as we move for growth.
As Warren Buffett said: “Only when the tide goes out do you discover who’s been swimming naked.”
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