Across the globe, the shape of terrorism seems to be changing.
Although historically focused on “trophy targets” with events that cause significant physical damage, the latest attacks tend toward the active assailant model.
These events can cause plenty of terror but without the investment and operational risk needed to cause extensive physical damage. In the end, this approach to terror is often far more effective — particularly for dollars spent by the perpetrating group — than the traditional large-scale attacks that cause physical destruction.
In the United States, there hasn't been a successful high-profile terror attack with an aim to cause physical damage since September 11, 2001. Active assailant incidents, however, have been more common. Shootings in San Bernardino, California, and Orlando, Florida, demonstrate that the evolution of terror has finally reached U.S. soil.
Need for broader collection of insurance solutions
While the terror threat has evolved, the insurance industry's approach to it has lagged. At every link in the global risk and capital supply chain, the discussion has centered largely on physical damage and workers’ compensation. Of course, the insurance industry needs to be prepared to handle large events. But there remains a clear need for a broader collection of solutions that protect businesses from the full array of attacks that could occur.
Financially significant terror attacks don't happen often. Since 1990, Property Claim Services (PCS), a Verisk Analytics business, has identified 20 events worldwide with approximately $50 million in insured losses (not indexed for inflation). Only five reached $500 million — and two of them involved the attacks on the World Trade Center in New York (1993 and 2001). In fact, PCS has only three terror events on record since 1990 that reach the catastrophe designation threshold, the third being the 1995 bombing of a federal government building in Oklahoma City, Okla.
More difficult to predict
The challenge with terror — unlike with natural catastrophes, for example — is that they’re more difficult to predict, may be clustered in location and time based on geopolitical conditions, and can fade as an existing threat is addressed. Forecasting and preparation can also be problematic. A catastrophe plan for handling claims from a large-scale terror attack can gather dust for decades before being tested. And if not updated regularly, the plan may not be relevant if an event affecting insureds ultimately occurs.
Even smaller-scale events don't occur with frequency in the United States. Only 64 terror events have occurred in the United States since 2004 — with five each in 2015 and 2016, according to Verisk Maplecroft. Overall, those incidents resulted in 464 casualties and 107 fatalities over the past 13 years. As to physical damage, nothing that occurred was sufficient to qualify as terror under the Terrorism Risk Insurance Act (TRIA).
U.S. terror event frequency and severity
For smaller events (at least as measured in property damage or workers’ compensation claims), the problem isn't claims handling. Such events rarely affect the insurance industry. The fact that smaller attacks — which appear to be occurring with increasing frequency — don't trigger insurance coverage suggests there's a protection gap that the industry should be able to fill. Right now, companies are carrying terror risk on their balance sheets, and it's only a matter of time before risk managers and boards of directors begin asking tough questions about terror exposure, especially for businesses that provide “soft targets,” such as hotels, major retailers, malls and schools.
Determining terror losses
The purpose of insurance is to provide protection to the insured. In theory, at least, that means providing compensation to a claimant based on the damages sustained and the policy limits in place. For personal, and even most commercial claims, that's a straightforward proposition. Insurers generally do an excellent job of meeting their obligations. For complex commercial claims, however, the adjusting process can be much more difficult, and such is the case with terrorism.
Everything from determining whether an event was covered through ascertaining the extent of loss is rife with nuance. A major loss in a crowded metropolitan area — both World Trade Center attacks come to mind — simply takes longer to adjust. The final PCS industry loss estimate on the terror attacks of September 11, 2001, required about 30 months, making it the longest development period in PCS history.
For many businesses, a major terror attack could result in closing their doors. If cash flows are tight and the business then suffers a reduction in revenue for a period of time (on top of remediation costs), the financial burden could become too much to bear. And by the time a claim is settled, payment would be just another asset to be considered in the liquidation process. While the insurance company would be doing its job, the insurance system would have fallen short. Ultimately, the policy would have failed to fully protect the business.
Insurance works only when it can keep a business going. For a major terror event, and regardless of whether the attack causes physical damage or fatalities, the insurance industry should be able to provide the sort of protection necessary to make sure a growing concern stays that way.
New products to address the active assailant threat, for example, have recently come to market, and that represents an important step forward for the insurance industry. Dealing with the latest risks helps insurance remain relevant as a risk management solution for original insureds across the country. But traditional approaches to insurance may not be enough to protect corporate clients from large financial losses, particularly where margins are tight and access to credit is crucial for supporting daily operations.
Parametric covers have recently become of increasing interest across the U.S. insurance industry, particularly for natural catastrophes. Even so, limited entries into terror have shown potential, and the chances for adoption are growing.
Unlike traditional insurance, parametrics provide compensation to the claimant when an event of a certain magnitude occurs. In the property catastrophe space, that may be an earthquake of a given size or wind speeds reaching a given threshold. The process of identifying a covered event, therefore, is relatively quick and easy, resulting in faster compensation to an affected claimant, as long as the trigger is structured properly. Parameters that could be used in terror covers include the number of fatalities or casualties from a terror incident when defined as such, presumably by an independent third-party reporting agent.
Speed is the key here. For terror events substantial enough to severely disrupt businesses, rapid infusion of capital could keep a supply chain moving. In turn, that could keep companies operating. For the public sector, parametric terror covers could replace or supplement aid and grants, and they could provide a much-needed capital infusion very quickly, helping a community return to normal much faster.
And the adjuster?
Parametric covers do come with some significant benefits for insurers. In particular, they aren't tied to the insured's loss experience. The cover would be triggered by an objective, independent number, greatly reducing the time and effort associated with paying a claim. Think about a policy triggered by the number of fatalities from a terror event. Based on the reporting agent named in the policy, there may be a claim payment in the event of an incident that results in 100 fatalities. After the event, if the reporting agent indicates there were at least 100 fatalities, the claim would be paid.
So, what's missing from this scenario?
Validation of any facts regarding the loss from the insured
Use of lawyers and forensic accountants to ascertain the extent and value of the loss
Hours of interviews with claimant employees and other stakeholders
Piles of notes in the claim folder that could wind up in dispute (or at least disagreement) later
Multiple site visits over a period of months or longer
And what else is missing? Most of the loss adjustment expense. An insurer can handle the claim quickly and fairly easily, having adjuster time for those scenarios with particularly thorny challenges that somehow potentially slip through the cracks of a well-structured coverage trigger. Nevertheless, claims handling becomes focused on the deployment of skilled and experienced resources to where they’re needed most, rather than to every claim that comes in the door.
At a minimum, insurance needs to follow the risk. And with the shape of terrorism changing, it's time for the industry to develop solutions that help corporate insureds move risk off their balance sheets. This does more than help insurers maintain their relevance. It offers an opportunity to deploy more capital, attain profitable growth, and generate shareholder wealth — all of which have become difficult in recent years. Resolving loss settlement arising from the emerging terror problem benefits everyone.
Tom Johansmeyer (email@example.com) is assistant vice president of PCS strategy and development at ISO Claims Analytics, a Verisk Analytics (Nasdaq:VRSK) business. Ted Gregory (TGregory@verisk.com) is director of PCS operations at ISO Claims Analytics.