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Capital Considerations of Insurers with Catastrophe Exposure

Capital Considerations of Insurers with Catastrophe Exposure. October 22, 1998. Jeanne H. Dunleavy Senior Vice President Risk Management. Catastrophes. Natural Disasters Y2K Tobacco Liability Asbestos & Environmental Man-made Catastrophes. Discussion Outline. Best’s Rating Philosophy

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Capital Considerations of Insurers with Catastrophe Exposure

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  1. Capital Considerations of Insurers with Catastrophe Exposure October 22, 1998 Jeanne H. Dunleavy Senior Vice President Risk Management

  2. Catastrophes • Natural Disasters • Y2K • Tobacco Liability • Asbestos & Environmental • Man-made Catastrophes

  3. Discussion Outline • Best’s Rating Philosophy • Catastrophe Exposure Trends • Financial & Strategic Evaluation • Catastrophe Management Strategies

  4. A.M. Best’s Rating Evaluation —Key Components Financial Strength Operating Performance Market Profile Best’s Rating

  5. Best’s Rating Philosophy —Catastrophe Risk • Extensive PML analysis • Cat modeling standardization issues • Secure insurers must survive reasonable PMLs • Gross PML leverage • < 100% for superior insurers • Concern over opportunistic players in cat-prone areas

  6. Compiling Information — Best’s Supplemental Rating Questionnaire • Gross & net PML • 50-, 100-, 250- & 500-year return periods • Catastrophe models • Modeler & version • Key assumptions • Liquidity profile • Historical experience

  7. Gross Catastrophe Leverage By Severity Source: A.M. Best Co.

  8. Net Catastrophe Leverage By Severity Source: A.M. Best Co.

  9. Catastrophe Reinsurance Dependence Source: A.M. Best Co.

  10. A.M. Best’s Financial Evaluation — Catastrophe Risk • Capitalization • Liquidity • Profitability • Financial Flexibility

  11. Cat Risk Financial Evaluation — Capitalization • Best’s Capital Adequacy Model (BCAR) • Net after tax PML - higher of: • Hurricane 100-year return period • Earthquake 250-year return period

  12. Cat Risk Financial Evaluation — Liquidity • Liquid assets • Liquidity stress test • Pro forma 120 basis point rise in interest rates • Bond securities with unrealized losses

  13. Cat Risk Financial Evaluation — Profitability • Earnings volatility/earnings drag • Frequency as well as severity • Costly reinsurance coverage

  14. Cat Risk Financial Evaluation —Flexibility • Reinsurance utilization • Access to capital markets • Debt capacity • Parental resources

  15. Capitalization Sensitivity AnalysisGross & Net PML Leverage Liquidity Liquid Asset ProfileCash Flow Stress Test Profitability Earnings Volatility & Drag Financial Flexibility Access to CapitalReinsurance UsageDebt CapacityParental Support Catastrophe Risk — Financial Evaluation

  16. Cash FlowInvestor ViewBest’s Rating Risk AppetiteSurplus / SolvencyEarnings Volatility Risk Retention Strategies Exposure Caps Exposure Elimination Loss Mitigation Reinsure/Risk Financing Regulatory Constraints Parental Commitment Strategic FitGoals & Objectives Corrective Timelines Catastrophe Risk — Strategic Evaluation

  17. Emerging Catastrophe Management Strategies • Risk retention/containment • Risk mitigation • Risk transfer • Risk financing

  18. Issues Excessive Florida cat exposure Difficult regulatory environment Solution Create separately capitalized Florida subsidiary to segregate exposures and demonstrate need for increased rates Risk Containment — Example: Allstate

  19. Nationwide Increased cat losses Farmers Substantial CA EQ exposure Linking CA law for HO & EQ Tighten U/W criteria Prem discounts for enforced bldg codes State Farm Limited/non-renewal business Nationwide Farmers Implemented new mini-policy pre-CEA State Farm Promote rating bldg codes’ effectiveness Risk Mitigation — Examples: Nationwide, Farmers, State Farm Issues Solutions

  20. Issues Farmers Substantial CA EQ exposure Linking CA law for HO & EQ Solutions Farmers Implemented new mini-policy pre-CEA Risk Mitigation — Example: Farmers

  21. Issues High cost of reinsurance Access to capital markets/add. capital Solutions Non-affiliated, special purpose reinsurer Issued reinsurance contract/cat-linked bonds tied to East Coast hurricane losses ($500 mil XS $1 bil layer) Risk Transfer — Example: USAA

  22. Issues Large commercial property cat exposure Augment traditional program with cost-effective alternative Access capacity in capital markets & avoid market risk of issuing securities after major event Solutions Catastrophe Put Option Pre-negotiated sale of $50 mil convertible preferred securities to Centre Re if losses exceed RLI’s cat reinsurance protection Risk Transfer — Example: RLI/Centre Re - Contingent Equity

  23. Reinsurance Catastrophe linked bonds USAA, Swiss ReWinterthur Debt Contingent surplus notes Arkwright, Nationwide Standby line of credit Nationwide, State Farm, Florida JUA Equity Catastrophe equity puts RLI/Centre Re Investment Catastrophe options Travelers Cat Management Strategies — Non-Traditional

  24. Summary • Elevated losses • Catastrophe models • Favorable trends • Best’s Ratings

  25. Effectively managing catastrophe risk is one of the major challenges for insurance companies A.M. Best is focused on preventing and detecting insurer insolvency E.W. Blanch plays a vital role in providing sound advice and innovative risk transfer and risk financing products

  26. Catastrophe Risk Management • Using Technology • As A Pricing Tool • To Understand Layering, Loss Costs, and Probabilities • To Create Practical Solutions • Integrate with Overall Financial Performance

  27. E. W. Blanch Company

  28. Overview of E.W. Blanch holdings, Inc.

  29. E.W. Blanch Mission Statement To make an identifiable and measurable contribution to the success of our clients through innovative concepts and unparalleled service.

  30. How We Deliver Solutions EWB Holdings, Inc. Swire Blanch (International) EWB Co. (N. America) Relationship Executives - Linda Johnson Scott Fest Post-loss Mitigation Services Risk Transfer Services Analytical Services Primary Servcices

  31. EWB Holdings Financial Highlights: As of 12/97 REVENUES: $167M (53% Increase From 1996) GROWTH: Over 25% Compounded (Last 5 Years) EPS: $2.03 ASSETS: $920M OWNERSHIP: Publicly owned (NYSE = EWB) Approximately 25% Employee Ownership MARKETCAPITALIZATION: $446M

  32. Global Network Over 1,100 employees worldwide

  33. Historical Revenues

  34. Sample Client List Business Solutions: Fireman’s Fund Insurance Company Orion Capital Companies Wausau Insurance Companies Catastrophe Management: American Family Mutual Insurance Co. Gryphon Insurance Group Hartford Insurance Company Insurers / Reinsurers Acceptance Insurance Company Allstate Insurance Group Alfa Insurance Corp. Amica Mutual Insurance CIGNA Insurance Company CNA Group Frontier Insurance Company Guidant Insurance Group Liberty Mutual Insurance Company Orion Insurance Reliance Insurance Company Renaissance Reinsurance, Ltd. St. Paul Cos. State Farm Insurance Company W. R. Berkley Corporation Governmental: California Earthquake Authority (CEA) Florida Hurricane Catastrophe Fund (FHCF) Florida Windstorm Underwriting Association (FWUA) Illinois Department of Insurance (Pine Top) Texas Wind Pool

  35. Insurance Services Reinsurance Distribution Customer Risk Management Business Solutions What Specific Services Are Available

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