Insurance is an essential part of our lives as well as being an undeniable cost. Over the last five years a growth in the insurance business has led many private investors, looking to diversify their portfolios, back into this market.

Lloyd's of London is a household name in the insurance market and currently offers some 60 underwriting syndicates with a variety of risk profiles. However, despite the huge returns, investors  have shunned the Lloyd's schemes for many years, largely due to unlimited liability, which would see an investor's entire wealth put at risk. In the late 80's a deluge of claims, mainly due to asbestosis problems meant that many investors made substantial losses, sometimes with far reaching personal consequences.

As a result of this, limiting an investor's liability became essential and so Lloyd's introduced the ‘English Limited Liability Partnership Vehicle' alongside limited liability Companies, where only the capital provided is at risk rather than an individual's total assets. A Franchise Board was also established, which strictly monitors Lloyd's syndicates to ensure a balanced business exposure, and a realistic expectation of profit.

These changes have seen a revival of interest in Lloyd's, as investors are drawn in by the relative high returns, but the vehicle is still considered high risk and clients are exposed to potentially losing their entire investment if  large underwriting losses are incurred. This can be mitigated by having a diversified exposure to Syndicates however Lloyd's  has a three-year accounting rule, so returns are not known until three full years have passed, although interim distributions are possible.

A typical underwriting stake, would be a minimum of £550,000 in assets of which £200,000 should be in cash. The cash is needed to purchase the right to participate on the various Lloyd's Syndicates. This is an asset for future trading.

The structured gearing of the product enables a higher premium to be obtained relative to the actual investment. For example, providing Funds at Lloyd's of £350,000 can be translated into a £875,000 premium income and the returns are based on this premium limit. So if a 20% return is generated in 2006, the investor would make a profit of £175,000. Or a 50% return on the capital employed, with of course limited liability and, of course, the use of assets twice.

According to Moody's, the total return on the capital employed in the business for the last 5 trading years was on average 25%pa, plus the return on the underlying assets, Despite the massive financial losses of the hurricanes of 2005, investors still saw a profit.

For 2006, it's still early days, but the estimated return according to Hampdens, one of the Lloyd's members' agents, on the capital employed is likely to be in the region of 50%.

If you add to this the inheritance tax relief of business investments,  and the pension planning possibilities, as well as the potential of involving other family members, it's understandable why interest in Lloyd's is gathering pace once again. However, specialist tax and other advice should be sought before taking any action here.

Participating in Lloyd's syndicates is a risky business, and expert advice should be sought before participation in their schemes. As with any investment, profits as well as losses can be made. However, for many high net-worth and affluent investors, the unusual return structures adds an element of diversity to a portfolio and this new method of membership is proving to be popular with entrepreneurs and those who have sold their businesses. It can be a meaningful part of the alternative investment strategy content of a well-diversified portfolio.

Coutts has worked with individuals and businesses involved with Lloyd's for not just decades, but centuries, often with lending and wealth management solutions or support services around any guarantees that are made. It is one of a number of niche areas, including client philanthropy, where Coutts tailor the approach to every individual client.

By Anthony Barrable, Senior Manager at Coutts & Co