Palomar shares slump in August despite 'limited' Vesttoo exposure

Palomar Holdings shares have endured a steady decline since news of a scandal involving Vesttoo Ltd. emerged at the start of August despite the specialty insurer's top executive insisting the company's exposure is immaterial.

La Jolla, Calif.-based Palomar is one of 49 US-domiciled property and casualty insurers that held letters of credit issued in the name of China Construction Bank Corp. as of year-end 2022. Several have indicated in recent regulatory filings that they have learned the letters of credit were invalid. Since the story broke at the start of the month, Palomar's shares are down 15% as of the Aug. 24 close.

The letters of credit at issue were connected to reinsurance transactions arranged by Vesttoo, a risk-transfer technology platform based in Israel. Palomar subsidiary Palomar Specialty Insurance Co. reported a $23.5 million letter of credit from China Construction Bank as of Dec. 31, 2022.

Palomar's exposure was "limited to a single counterparty and is immaterial," CEO Mac Armstrong said during the company's earnings call on Aug. 3.

"We were able to get in front of this really quickly, and we understand not just our exposure, but our remedies, and those remedies are several," Armstrong said.

Vesttoo said its investigation found that the source of the fraudulent letters of credit was "external" and that none of its employees were under suspicion of involvement in fraudulent activities. The company matched insurers and investors, with some of them using letters of credit as collateral for transactions.

Palomar investors had expressed concern over the situation, Piper Sandler analyst Paul Newsome said in a research note to clients. But after discussing the matter with management, the analyst said Palomar's exposure to Vesttoo was "likely reasonably well protected."

"[But] anything tainted with this potential fraud that we don't really understand, especially with fronting type of agreements, is a concern," Newsome added in an interview.

Palomar did not respond to a request for comment.

Despite the downturn this month, Palomar shares are still up nearly 9% year to date through Aug. 24.

Root Insurance Co., a subsidiary of insurtech Root Inc., also had one letter of credit in the amount of $18.6 million connected to China Construction Bank. Root, which has traded down nearly 8% since Aug. 1, declined to comment on the matter.

White Rock Insurance (SAC) Ltd., a subsidiary of Aon PLC, filed a lawsuit against Vesttoo, accusing the insurtech of producing fraudulent letters of credit worth in excess of $2 billion, The Wall Street Journal reported.

Aon did not respond to a request for comment. Its shares are up 2.7% for the month as of the Aug. 24 close.