Insurers Confront Unpleasant 'Surprises' With HurricaneLosses

By caroline mcdonald

Chicago

As Hurricane Wilma hammered South Florida after destroyingMexican tourist centers, one word that came up a lot whenreinsurers and insurers assessed the lessons from HurricanesKatrina and Rita was "surprise," with everyone making it clearthat's the last word anyone in the industry ever wants to hear.

Indeed, Hurricane Katrina "really quite surprised us," notedErnie Csiszar in his opening speech at the Property CasualtyInsurers Association of America annual conference. PCI's presidentand chief executive officer said the industry had large lossesbefore, citing Hurricane Andrew and the World Trade Center'sdestruction, "but we were able to put things right and there was aconfidence we could put things right."

However, he said that with Hurricane Katrina coming at a timewhen market discipline is reasonably high, "to suffer this level ofsurprise and have a loss that I think for the first time we can'treally quantify with a great deal of confidence, has probablyunsettled our confidence levels a little."

John Phelen, president and CEO of American Re, said Katrinaraises many questions, including "the flooding and the confusionabout what is covered. The biggest surprise is the storm surge." Hesaid that storms occur is not a surprise, "but we are surprisedthat so many occur and by the intensity."

Patrick Liedtke, secretary general of the Geneva Association,said the industry has "been surprised by the uncertainty." Theindustry's first lesson, he added, is that "we probably are not assmart as we think we are." He noted that "we need to do more on theknowledge level."

One of the biggest problems, he said, is that "we knew about[the risks facing] New Orleans. We knew it was below sea level, butwe seem to have the wrong mechanisms in place--not only theinsurance industry, but in society, in the economy at large; how wedeal with prevention and how we deal with the costs over time."

"If you're looking for lessons learned, the lesson for me ismore basic," Kenneth W. Brandt, leader of the Americas and AsiaPacific P&C reinsurance unitwith GE Insurance Solutions in SanFrancisco, told National Underwriter. "We're surprised by the levelof severity of Katrina, and we're surprised at the frequency ofhurricanes."

He continued that the industry was also surprised by thefrequency of last year's four hurricanes in Florida, thedevastation of the tsunami in Southeast Asia, the earthquake inPakistan, and the devastation of the World Trade Center in 2001."So, the basic lesson here," he said, "to paraphrase an old bumpersticker, is 'surprise happens.'"

The question posed to the industry, he said, is how to proceedfrom here. "We have got to decide whether we are going to look atrisk differently and risk management strategies that buydifferently, sell our products differently, and assess [risk] onthe basis that there will be another surprise next year," he noted."We can't continue to try to react. We have to build in programsthat expect [surprise] because the 21st century has had a toughstart for this industry."

GE's Katrina losses, the company said, were about $298 millionafter taxes. Mr. Brandt noted that about half the reinsurer's U.S.business is regional, mid-market. In general, he said, "we'vestayed out of the Gulf Coastal states and some of the wind areas ofthe regional business because we know we're exposed on that withthe non-regionals."

Mr. Brandt, who met with more than a dozen accounts here duringthe PCI meeting, said his clients have asked for an assessment ofstorm activity and model effectiveness.

"Our answer is simple," he said. "Everyone has to recognize thatthe models aren't ready for prime time." Whether a carrier'sexposure assessment and pricing is based on a particular businessportfolio, risk management strategy, or catastrophe models, "manyare becoming too reliant on models, which aren't capturing all theexposures," he said. "That has to be factored in to the insurancecommunity as a whole."

Rising costs also need to be captured in these models, he noted.For the insurance community that means, "whether you're in Iowa orDenmark, Australia or Louisiana, your risk is going to have to beassessed with a fresh pair of eyes."

Within that context, he said his company will differentiatebetween regional and non-regional books of business, it will "havea conversation" with the regional book, get new versions of themodels, "and we'll say, 'This is what the models are telling us andthis is our input. What's your input?'" The next step is to "workthrough it and be rational--that's what [our clients] wanted tohear from us."

Steven J. Dryer, managing director and regional practice leaderfor North American Insurance with Standard & Poor's in NewYork, asked: "Why is there so much surprise? Individual companieswill have different positions. And does our assumption about theindustry's ability to understand its risk need to be changed? Doesit need to be brought down, and if so, does that have an effect onratings overall?"

Going forward, he said, the ratings agency will look closely atcapital and earnings expectations. "If you're a company with a'Double-A' rating and we're taking a different view of the earningscomputations, that could have some impact--you may not be a'Double-A,'" he said.

He added that a longer-term issue is to raise the bar on riskmanagement practices.

Thomas Upton, S&P's managing director for financial servicesratings in North American insurance, noted that companies firstneed to identify their losses and then look at previous risktolerances to see how an event falls within those parameters.

He added that they should look for any surprises that businessesmight have correlated. "Was it unexpected?" he asked. "Some mightsay they didn't know they were exposed to that degree."

An example, he said, might be oil rig insurance. "If I startedinsuring oil rigs and I got caught by that, perhaps my policiesweren't as tightly worded as they should have been, and then itdoes go back to risk management," he explained.