Insight and Intelligence on the London & International Insurance Markets 19 Feb 2018

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A quarter full, or three quarters empty?

  • Mark Geoghegan 16 January 2018
  • It always annoys me when people ask if I'm a glass-half-empty or glass-half-full type of person.

    It is a particularly dumb question.

    Far from illustrating my innate optimism or pessimism, there are always precisely two correct and very simple answers to the famous dilemma.

    It's not psychology, it's a matter of logic and simple language.

    If I am filling the glass up, it's half full and if I'm drinking it, it is half empty.

    It may sound intriguing that a glass can be simultaneously both half full and half empty while containing the same volume of fluid, but quantum physics this definitely ain't!

    Then there's diversification and di-worsification.

    The latter phrase was first coined by the feted Fidelity fund manager Peter Lynch. The idea is that although diversification is a sound strategy because it spreads risk, reduces downside and should improve long-term returns, if taken too far it removes the practitioner completely from his or her specific realm of expertise with potentially disastrous results.

    Too much dilution eventually means a significant loss of coherence and control.

    It's a fair point. I wouldn't mind my family doctor telling me that there was probably something wrong with a specific part of my body, but there is no way in hell I would let her operate on me.

    I'd go and see a specialist and find out what they had to say first.

    But at the same time an exceptionally good general practitioner will still be better than a substandard specialist who hasn't kept up with latest practice and techniques.

    What really matters is how good you are at what you do.

    The diversification benefits matter, but the individual risks you assume matter more. Two below-average non-correlating investments are far worse than two above-average correlating ones and vice versa.

    For this reason, the fact that one-time monoline cat specialist RenRe is further diversifying, this time into the high end of life and pension reinsurance, should not surprise or spook anyone.

    We may forget that back in what some may fondly remember as its pomp, it used to do quite a lot of US P&C insurance, before this was sold to QBE in 2010. More recently, it has diversified organically into Lloyd's and inorganically into casualty via the acquisition of Platinum.

    Meanwhile, it has been diversified into the fee-earning insurance risk fund management business for as long as anyone in the industry.

    Some of these strategies worked out better that others. But Ren has never been orthodox and has always been open to new ideas.

    Investors look at the effects that these different plays have had on the overall risk-return of the business over time.

    The superior long-term track records of a Ren, an Arch, a Beazley, a Hiscox or a Nephila give them the credit they need with investors to try new things.

    Conversely, when poor performers diversify they get marked down straightaway because investors already doubt they are good enough at their day job, let alone in a new field that they don't understand so well.

    They accuse the CEO of doing "me too" stuff and the move generates fear, not greed.

    But no one gets a free ride. If your new idea doesn't work you will still get marked down.

    If a glass is at 50 percent capacity, you have to wait and see if it is half full or half empty. If the next move is up, it's happily on its way.

    But if the next move is down, then look out below...

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