1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

2 s Origins of state specific factors s Factors by line of insurance s Modifying factors based on judgement s Advantages and limitations recognized in the analytical approach Outline

3 s New York Dept of Ins factors: t Premium multipliers by state t Based on PCS data from 1950 to 1996 t Trended for Construction Cost Indices and Population Growth s Annual Reserve increment $2 Billion Origins of State Specific Factors

4 Annual Cat Reserve Increments Based on New York Factors

5 s Historical cat data not collected by line of insurance s $2 Billion funds some but not all cats t $3.2 Bil annual average cost since 1950 t $4.2 Bil annual average cost since 1967 Line Of Insurance Issues

6 South Carolina s Used A.M. Best data by state and line of insurance t Available from 1967 s Use statistical properties to separate catastrophic losses from typical losses t Cat loss is loss in excess of mean plus X * Std dev LINE OF INSURANCE ISSUES

7 South Dakota s For states with less severe catastrophic history, the method could not work as well LINE OF INSURANCE ISSUES s Low credibility for some state/line of insurance combinations s Some data cleansing necessary

8 s Factors based only on historical averages may be high or low depending on recent history of major cats in a state t South Carolina hurricane t New Madrid earthquake s Probabilistic modeling provided an alternative which could inform judgement t Multiple vendors solicited for modeling indications t Team analyzed six sets of modeling indications to supplement historical losses Judgement Modifications

9 s Some modeling indications were for commercial versus personal lines risks. t Line of insurance had to be inferred afterward. s Models treat different perils differently t Tornado/hail separate from hurricane s Some modelers did not include indications for all states s Varying composition of model output Issues With Judgement Modifications

10 Scatter s The tool used for comparing methods was the scatter chart.

11 Regression Line s The agreement between methods was measured by the regression line.

12 Residual Plot s Residual plots from the regression detected outliers

13 Weighted Regression s Weights for each method were derived by team consensus based on perceived similarity of the alternative to our reserve approach.

14 Outliers s States more than than two standard deviations from zero were considered candidates for modification.

15 s Homeowners factors modified by judgement for CO, HI, KS, NE, OK s CMP factors modified for FL, HI, NV s Allied Lines factors modified for AL, DE, FL, HI Wind Factors Modified

16 s Considerations for modification given to 12 states: t AK, AR, IL, IN, KY, MO, MS, OH, SC, TN, UT, WA s Earthquake history for these 12 states was lacking s Regression approach had to be adapted due to lack of ability to fit a meaningful regression line t Assumed that California had credible history and forced regression line through it Earthquake Factors Modified

17 s Factors were built considering t Exposure: Cost and population indices t Funding: Best allocation of a fixed reserve increment amount t Frequency: Both modeled and historical t Severity: Historical excess losses and model simulations t Credibility: Adjustments made in some premium line of insurance combinations t Data quality: Investigations uncovering data anomalies led to some factor revisions Conclusions