The structure of the London Market could be challenged by European directive, warns Standard & Poor's (S&P).

A new European Union (EU) directive last month has stipulated that, in the event of an insurance company becoming insolvent, both retail and commercial policyholder claims should be protected ahead of all other commercial creditors, including debt-holders.

The ratings agency believes this could create difficulties for insurers, particularly in the London Market.

“In its initial form, the directive seems to be good news for policyholders in the affected countries, bad news for debt-holders and opens a period of uncertainty for some reinsurers,” said David Anthony, director of S&P's Financial Services Group.

But, he added, “there is an element of ambiguity and if a distinction is made between primary and secondary market policyholder obligations, then its effects may be felt most acutely in the London Market”.

Anthony said that Lloyd's and the Company Market was where most firms traditionally wrote a mix of primary and secondary insurance, notably reinsurance. And if insurers anticipated being in a weakened legal position, some of them might turn away from the London Market to pure reinsurance companies for their main protection.

“Some cedants may opt to reduce their existing relationships with hybrid insurance or reinsurance companies,” he predicted.

“But some companies may try to address the problem by restructuring their operations – dividing into two separate legal entities writing insurance and reinsurance respectively.

By doing so, Anthony said, the pure reinsurance entity would be able to avoid placing ceding company clients in a legally subordinate position.