Clear Blue ratings off negative watch. Some uncertainty from Vesttoo fraud remains

The financial strength ratings of fronting specialist Clear Blue Insurance Insurance Group have been removed from negative watch by AM Best, but the rating agency notes that some uncertainty remains, due to the impacts and effects of the letter of credit (LOC) fraud instigated by employees of insurtech Vesttoo.

Clear Blue needed a $25 million capital injection to strengthen its balance-sheet, it now transpires, with a $15 million funded via a line of credit at its holding company and another $10 million equity investment made by investor Pine Brook.

AM Best said last night that it has now removed from under review with negative implications and affirmed the Financial Strength Rating (FSR) of A- (Excellent) and the Long-Term Issuer Credit Rating (Long-Term ICR) of “a-” (Excellent) of the members of Clear Blue Insurance Group, with the outlook assigned to these Credit Ratings now set to stable.

AM Best said that, “The ratings of Clear Blue reflect the group’s balance sheet strength, which AM Best assesses as very strong, as well as its adequate operating performance, limited business profile and appropriate enterprise risk management (ERM).”

Recall that, in the wake of the Vesttoo letter of credit (LOC) fraud, that saw numerous reinsurance arrangements backed by forged collateral, Clear Blue initially said that it did not expect a material impact to its ratings, but acknowledged that it would likely have to seek out more reinsurance to protect its surplus and capital.

Within days, AM Best responded and Clear Blue saw its ratings placed under review with negative implications by the rating agency, as the fall-out from the Vesttoo reinsurance collateral issues continued.

Just a couple of days later it became apparent that Clear Blue was moving fast to resolve the issues, with the fronting company reporting that it had already managed to replace over half of the coverage needed for reinsurance programs affected by the collateral issues linked to insurtech Vesttoo.

Clear Blue then became the first external organisation to sign up to appear in the Chapter 11 bankruptcy case of Vesttoo, as the fronting specialist looked to protect its rights as a possible creditor.

Then, in September, we reported that Clear Blue had paid at least $23 million in commissions to Vesttoo entities that provided the now known to be fraudulent collateral for reinsurance deals.

Now, Clear Blue’s efforts to recover from the issues that had been imposed on it by the Vesttoo linked fraud have enabled it to recover its rating back to a stable outlook, which is positive for the fronting specialist.

But, at the same time, it is evident the issues haven’t completely gone away, with Clear Blue now left with a legacy exposure to programs that had the faked reinsurance collateral attached to them.

AM Best explained that, “Over the past few months, Clear Blue has successfully moved active programs to either new reinsurers or reinsurers on its existing panels took higher percentages. All of these contracts have been signed and are fully collateralized. All “run-off” programs which remain in place are collateralized by funds held in cash from written premium. However, additional collateral on these programs above the funds held has not been replaced.”

Clear Blue suffered a $33 million “temporary reduction in surplus” in its Q2 2023 filings, the rating agency explained, but this impact fell to $16.36 million in Q3 filings and AM Best said it is “expected to gradually decline over the next few quarters before disappearing by mid-2024.”

In addition, Clear Blue took a further $10.7 million write down of recoverables, because of a lack of replacement collateral on the programs that are now in “run off”, which drive an underwriting loss of the same amount for Q3 2023.

But, having taken on additional capital to strengthen its balance-sheet, including the $10 million private equity injection from long-standing backer Pine Brook, replaced reinsurance for active programs and taken a relatively modest financial loss, AM Best now says of Clear Blue that it “continues to assess the company’s balance sheet strength level as very strong.”

On the issues of the fraud itself, that saw billions of dollars in reinsurance limit backed by fraudulent letters of credit across the industry in deals facilitated by Vesttoo, AM Best notes that there has been a failure of industry-wide counterparty security checking process and controls.

“In response to this fraud, Clear Blue has implemented more rigorous procedures around securing, documenting and confirming letters of credit,” the rating agency said. Adding, “AM Best believes these actions to be appropriate.”

But, uncertainty remains, due to the programs now in run-off and the fact they lack the reinsurance that LOCs should have been backing from the start.

AM Best said, “The performance of the retained run-off programs remains uncertain and could potentially impact Clear Blue financially and operationally.

But added, “The stable outlook that has been assigned reflects AM Best’s view that the actions taken by Clear Blue should continue to mitigate the potential negative impacts. However, if this view were to change, AM Best may need to take negative rating action.”

This is a vote of confidence in Clear Blue and the fact the company has come through this saga with its business intact and positioned to move forwards is commendable.

The run-off programs will be a legacy uncertainty that hangs over Clear Blue for a time, but as long as they perform as anticipated there is every chance the company gradually achieves finality for those program risks and is able to go-forward with no legacy exposure to the Vesttoo fraud issue.

Read all of our coverage of the alleged fraudulent or forged letter-of-credit (LOC) collateral linked to Vesttoo deals.