CATASTROPHE INSURANCE

Insurance 101 The Myth: RISK PURE RISK - chance of a loss – usually computed in $$$. SPECULATIVE RISK – chance of a loss or gain in $$$$$. Risk taking behavior – Individuals will take more chances to incur a gain than a loss.

Insurability Events are separate, occur many times and have relatively small damage amounts. Frequency and severity of loss can be predicted from previous history. Combining many similar risks increases ability to predict future losses. Pooling many similar risks increases profit. Rates can be set to account for projected losses.

Catastrohpe Risks are specific, not evenly distributed. Frequency and severity are not reasonably predictable. $$ Losses are larger with a longer pay out period. Pooling similar risks is NOT a good idea.

Casualty Insurance

Catastrophic Loss Stress Point Insured Losses > $100 Billion MegaCat $$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$$ Katrina: $45B $$$$$$$$$$$$$$$$$$ An drew: $22B $$$$$$$$$$ WTC : $21B $$$$$$$$ North- ridge: $18.5B $$$$$$

Reinsurance An insurance policy an insurance company buys to cover some of its losses. Companies are multinational. Are not regulated by State or US.

CURRENT PROBLEMS Risk taking behavior. Nature of Insurance – replacement. Industry and regulators response. Subsidies and Rate Control Federal disaster payouts.

Earthquake/Casualty Insurance – Catch 22 Casualty insurance – coverage you buy that you hope you dont have to use. Statistically there is a fairly good chance that you will within a defined period of time. Catastrophe/Earthquake Insurance – coverage you buy that you probably wont get to use. Statistically a small probability of a very large loss; smaller loss would be below deductible.

Insurance Puts you back where you were. SHOULD YOU STILL BE THERE???

Industry and Public Reactions Need a sufficient number of policies. Only 14% of Western Washington homeowners carry earthquake insurance. Those that do represent the riskier end of the spectrum. Companies limit new policies after disaster. Need to insure to value (actuarily sound rates) Homeowners Against Citizens Florida petitions state leaders to stop increasing homeowners rates. (St Petersburg Times 9/14/06)

Subsidies and Rate Control Subsidies are politically motivated and an inefficient use of tax dollars. Senators Landrieu and Vitter of Louisiana object to the senate rate increases for flood insurance, fearing they would price their constituents out of the market. (Times-Picayune, 9/13/06) Rate Control is not actuarily driven, gives preference to certain groups.

Federal Disaster Payouts IF THE GOVERNMENT HANDS OUT MONEY, DO WE REALLY NEED INSURANCE??? No, I didnt have any damage, but I just want what everyone else is getting. (New Orleans resident angry that he couldnt get a new fridge, October 18, 2005.)

CURRENT PROGRAMS National Flood Insurance Program Federal program established Low overall participation. Not solvent on its own. $20.8B underfunded. Current fixes in dispute. California Earthquake Authority Quasi public, quasi private program. Low participation. Would not be solvent if more of the at-risk properties were covered.

Florida Hurricane Catastrophe Insurance State reinsurance. Question on whether the threshold amounts are correct. Could be severly underfunded. Terrorism Risk Insurance Act National Reinsurance. Good until 2008 Take up rate increasing. 100% of Workers Comp.

Citizens Property Insurers Insurer of Last Resort Book of Business includes: High risk properties, whether by location or construction, High value properties. Rates are controlled, not actuarily sound. Funded by premiums from policy holders and assessments from companies. $1M plus properties represent 10% of the premium dollars but only 2% of the policies written.

Catastrophe Proposals Publicly Free Funded_____________________ Market Federally Funded and controlled Federal Reinsur- ance Regional Reinsur- ance Tax and Law Changes CAT Bonds Similar to NFIP Similar to TRIA Similar to Florida CAT Pool Surplus changes No subsidies Invest- ment tool Specula- tive risk.

Could it Work? Hard to Say - Need: Assumption of risk at the personal level. Full participation with opt out provision. If a person opts out will not get funds. Disasters need to be rated separately. Companies need to know the maximum probable loss, so need to base rates on value. Reinsurance needs to be available no matter what the market. Federal stop loss provision?