It’s common for traders to err when executing multiple transactions a day. When discovered quickly, it’s an easy fix with a small loss. When not, and in a volatile stock market environment, a small error can lead to millions of dollars in loss.
To protect themselves from the repercussions of errors, firms are engaging a Cost of Corrections enhancements on their Errors and Omissions (E&O) coverage.
Think of Cost of Corrections (COC) coverage as preemptive liability protection that allows an investment company or trading firm to trigger its own payout after an error. Avoiding a lawsuit, but still making the customer whole, without the need to contribute beyond the deductible COC coverage is a reputation saver for many businesses.
In one recent case, a mutual fund had been told they were correctly following a specific tax rule correctly by their accounting firm. After filing the fund’s annual return, and distributing the capital back to investors, the government said they failed to meet the requirements of the tax rule and the investors owed an additional $1.5M in taxes, which, spread across the mutual fund’s portfolio, would have effectively required each of their clients to pay a portion.
While this scenario didn’t constitute a typical trading error, the firm was able to claim the $1.5M against their COC limits without the need to trigger a liability lawsuit from a client, which ultimately saved their reputation among clients, minimized costs for the firm and saved its E&O carrier from a lengthy legal battle against the accounting firm and the Government.
To make a claim under your E&O policy’s Cost of Corrections coverage, your business will need to:
- Define the loss. Provide documentation on the amount of the loss and why the error occurred.
- Prove this loss would otherwise be an E&O claim. Explain to the insurer why this situation would likely evolve into a full E&O claim without engaging COC coverage.
- Report the loss ASAP. Clients have an obligation to report these losses as soon as they are discovered, since they need to be fixed and reported. The insurer will not want to pay for a trading loss if your client discovers it and chooses to wait and see if the price will correct itself thereby adding to the risk but hoping the decision results in no loss at all.
FAQs on Cost of Corrections coverage
Trading and investment firms considering whether to file a COC or traditional E&O claim will want to consider the following FAQs.
Q: Does a COC payment precludes an E&O claim?
A: When the insurance company pays a COC claim, they’ll ask the firm to sign a warranty statement stating that the payout is the maximum amount they will ever ask for with respect to this scenario. However, until a firm has received a COC payout, or after a COC claim is denied, the firm can still file a traditional E&O claim for the same issue as long as they can trigger the liability coverage.
Q: How does the COC endorsement work?
A: The popularity of COC coverage has expanded recently, leading insurers to remove COC coverage sub limits, and instead provide COC as an add-on E&O coverage with access to the full policy limit. For example, just a few years ago, a $10M E&O policy may have included $2M of COC coverage. Today, that same $10M E&O policy could contain no sublimit and grant access to the full $10M limit. The additional limits are incentivizing investment firms to ask for COC coverage more often instead of making an E&O claim in a variety of different scenarios.
Contact your HUB Financial Services expert to help you understand your current E&O policy, and for more information on COC coverage and its benefits.