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RMS: Get The Balance Right for Success in Catastrophe Risk Management

RMS are one of our Silver Sponsors for the 6th Annual Latin American Insurance & Reinsurance Forum, taking place on May 4th & 5th. Full information can be found on our website here, or you can secure your place here.

Get the Balance Right for Success in Catastrophe Risk Management

What can insurers looking to adopt best practice for catastrophe risk management learn from Albert Einstein? He once famously said “Life is like riding a bicycle. To keep your balance, you must keep moving.” The same is true of catastrophe risk management. Successful insurers must work diligently, and continually innovate to strike a harmonious balance across Modeling, Underwriting, Portfolio Management, and Creation of Reports.

This enables you to:

• Write the right risks for the correct price

• Manage capital and purchase the required reinsurance protection

• Report accurate figures internally and externally in a timely fashion

Achieving and maintaining an appropriate balance over these pillars, to work towards best practice in catastrophe risk management, requires a consistent and ongoing level of commitment across people, processes, and technology. Failing to reach this balance can result in multiple negative outcomes. These can include surprise catastrophe events, overpaying for reinsurance protection, insufficient reinsurance cover for a risk, more knowledgeable competitors beating you to secure the best risks, and ultimately a poor combined ratio and return on equity.


Let’s start with the modeling pillar. Looking at your exposure data at the point of underwriting, is it the best it can be, and checked for quality? The classic “Garbage In, Garbage Out” could not be more applicable for exposure data fed into catastrophe models, pricing algorithms, or reports to decision makers. Increasing your data quality at the start of your process will result in better decision-making downstream. Using available third party reference data sources to verify data accuracy is useful, though even third party data should be routinely checked. Common sense sanity checks of combinations of exposure data including the values provided, gets you closer to best practice, to “red-flag” anomalies such as an impossible 20 story wood frame structure. The key is to require and assess exposure data and continually work to improve the data.

Move towards owning your view of risk

When catastrophe risk models are being used for key elements of risk bearing operations, such as reinsurance placement and rate making, it’s important to know about the methodology of the model(s) being applied across various aspects of your operations. In doing this, you move towards another best practice of catastrophe risk maturity- to own your view of risk. For example, you should know what is and what is not being quantified in the modeled losses, as unquantified losses will need to be considered and addressed/quantified if deemed appreciable.

Comparison of modeled losses to actual claims for notable historic events is a very useful component of this process. Every insurer approaches the market differently, relating to the coverages provided, claims handling, and data capture. This type of comparison provides quantitative insight into how a modeler’s view of risk compares to an insurer’s actual experience, which can then be acted on to adjust modeled losses leveraged by the enterprise. Models do change, so keeping ahead of changes and how they impact your own view of risk is necessary.

Managing non-modeled catastrophe risk

Another component of risk maturity is how insurers manage non-modeled catastrophe risk, when models are not available for a covered catastrophe. Many companies assume the losses will just be too small or can be conservatively estimated via a “rule of thumb” method. Adopting a best practice approach requires a refined exposure analysis to be performed, to quantify what could be lost and continually monitor this estimate based on available information about the underwritten risks. For example, knowing the geographic locations of where sinkholes occur due to geologic formations (from hazard maps and data) allows insurers to identify geographic zones and subsequently sum up values and even produce exposed limits in these areas as a first pass approximation of how much is at risk. Ultimately the non-modeled loss sources can be compared to the modeled sources when assessing the holistic catastrophe risk picture using this type of approach, including rates to charge and reinsurance requirements. This analysis can be further refined over time as more information becomes available including claims sizes and frequencies, research studies, hazard maps, and hazard data.

Underwriting - the front line of acquiring risk – should include account catastrophe risk management principles to also ensure it is being managed in a balanced fashion, for risk assessment, selection, binding, and pricing for the catastrophe components. Screening potential risk(s) to coverage prior to quoting, with applicable, available hazard data is highly recommended. For example, with a request for flood coverage, check the location(s) in the contract against an accurate third party flood data source to see the amount of exposure in a flood zone. In some cases, the speed at which underwriting decisions must be made does not allow for models to be in run real time, but instead requires a strategic precompiled analysis approach.

Portfolio management of catastrophe risk is paramount for several aspects of the overall process including reinsurance placement, monitoring hot/cold spots, and event response. The use of catastrophe models has historically been limited by companies to simply quantify portfolio level risk as a requirement to decide where and how much reinsurance to buy. This limited paradigm is changing with the increased flexibility, speed, and scale of new modeling frameworks, and the ability to better visualize exposure and risk (model loss) data. For example, many companies now perform a weekly analysis of portfolio exposure concentrations, allowing for rate adjustments to either increase or constrict the writing of new business. As events happen, a risk bearing entity can also quickly determine potential losses for a given portfolio, and report back to management, regulators, or shareholders. The analysis helps with operations, to decide which policyholders to contact, and where and how many claims adjusters will be needed. Lastly, the power to analyze complex reinsurance treaty structures such as aggregate terms and hours clauses is now coming on line in a granular fashion. This will allow insurers to perform a wider analysis of potential treaty structures to explore in the reinsurance marketplace, using tools that allow them to identify drivers of reinsurance costs, to better determine the optimal business strategy.

Reporting. Solvency II requirements rolling-out in Europe have produced a ripple effect on risk analysis and reporting requirements, that are being adopted in various ways across the globe. The one unifying aspect is more quantification of the level of risk posed and the ability to report on it in a fast and flexible fashion. Effective reporting relies on successful management of modeling, underwriting, and portfolio management pillars. Reporting systems must use reasonably current data with minimal error prone manual intervention, and be agile to adapt as regulatory requirements change, and accommodate ad hoc requests without undue time and resource requirements to fulfill them. Balancing catastrophe risk management activities and continually seeking new and innovative solutions is the key to success in this discipline. The first step is assessing your position on the possible spectrum of catastrophe risk management activities. This requires a thorough internal analysis across the four pillars of Modeling, Underwriting, Portfolio Management, and Reporting. Once you know where you are you can develop a plan of where you want to go and how to get there. Then get on your bike and keep your balance!

This content is provided by Euromoney Seminars for informational purposes only, and it reflects the market and industry conditions and presenter’s opinions and affiliations available at the time of the presentation.