We have yet to reach the peak on cases related to the mortgage crisis.

In the midst of a crisis, it is not always easy to get one’s bearings. By any measure, the sub-prime crisis rates as a financial disaster on an epic scale. Insurers are bracing themselves for billions of dollars of claims relating to subprime, as investors who lost money look for redress. The final cost to the insurance industry can only be guessed.

One gauge of the potential impact is the number of legal cases filed. Previously, the high watermark for the number of filings in the US was 559, as a result of the savings and loans crisis of the 1980s. Then 747 savings and loan associations failed, largely as a result of imprudent lending and scams during a housing bubble (déjà-vu anyone?). The savings and loans crisis probably contributed to the 1990-1991 recession. By 1991, the number of new homes constructed per year in the US had slumped to the lowest rate since the second world war.

This time, it is worse: by 30 June 2008, the number of subprime mortgage and related US legal filings totalled 607. But there is what may seem at first glance to be a silver lining in these figures. There has been a slowdown in filings through the months of this year. January was the biggest month and May the smallest, with June picking up a little.

But we should not be too cheery about this reduction in velocity. Experts say the slowdown is happening merely because sub-prime mortgages are receding into history, as lenders curtail their involvement or exit the field entirely. Worryingly, securities-related and contract-related disputes have held steady or even increased.

The sub-prime crisis appears to be still fluid. We could see episodic bursts of new activity and new areas of litigation may be tunnelled out.

There is other evidence that we are still on the uphill climb of this legal mountain. In the second quarter of 2008, only 36 cases were disposed, compared to 121 new cases filed: a ratio of approximately 1:3. Although this ratio is less steep than in the first quarter of the year (about 1:5) it indicates that the downhill portion of the mountain is still some way off.

The consequences of sub-prime for insurance claims under directors’ and officers’ (D&O) and errors and omissions (E&O) policies are incalculable. In the savings and loans crisis, the legal payout was $4bn (£2.2bn). Given that more cases have to date been filed in connection with the subprime meltdown than for the savings and loans crisis, we can infer that the legal pay-out is likely to be more than $4bn.

Thomas Hess, Swiss Re’s chief economist, has estimated the D&O and E&O losses at between $3bn and $9bn, roughly equivalent to a medium-sized natural catastrophe. But we should be wary. The total cost of the sub-prime crisis has been estimated at $1 trillion, much bigger than the $160bn estimated for the savings and loans crisis.

We will not know the answer tomorrow. It could be a decade before all the sub-prime cases are resolved.


Key points

• Sub-prime filings have recently topped the previous high watermark

• Slowdown in overall filings, but not for some classes of filings

• Impact on D&O and E&O likely to be more than $4bn