NU Online News Service, Jan. 20, 12:52 p.m. EST

Catastrophe modeling firms' hurricane damage predictions overestimated insured losses for a second year, according to a catastrophe prediction consulting firm.

Karen Clark & Company in a report said models designed to project U.S. Atlantic hurricane insured losses for the five-year period ending in 2010 "have significantly overestimated losses for the cumulative 2006 through 2009 seasons."

"Hurricane activity is very difficult to project because the Earth's atmosphere is very complex and has many feedback mechanisms," said the report. "Given all of the uncertainties, near-term projections do not have sufficient credibility to be used for important insurance applications such as product pricing and establishing solvency standards."

Modeling firms said the reports conclusions were flawed, based on wrong assumptions and misrepresentations.

In a report last year, the Boston-based firm found modeling overestimates for the 2006 through 2008 seasons.

This year's Karen Clark report said catastrophe modelers AIR Worldwide, Eqecat and Risk Management Solutions initially projected insured loss levels at least 35 percent above the long-term average for the period 2006 through 2010. AIR lowered its figure to approximately 16 percent in 2007, and Eqecat has made only minor adjustments to its original estimate of loss increases of between 35- and 37 percent. RMS introduced modifications to its model in 2009, but still predicted losses at 25 percent above the long-term average.

Assuming long-term average annual insured hurricane losses of $10 billion per year, these figures translate into cumulative insured losses for 2006 through 2009 of $48.8 billion, $54.5 billion and $54.6 billion, respectively, for the AIR, EQECAT and RMS models, according to the report's calculations.

Karen Clark said the actual cumulative losses were $13.3 billion, far lower than the model predictions, and only one-third the long-term cumulative average of $40 billion. The 2009 Atlantic hurricane season was below average in the number of named storms, hurricanes and major hurricanes, and was the lowest frequency year since 1997, it was noted.

The report noted that hurricane activity is influenced by many climatological factors, many of which are known, but some unknown, by scientists. It stated that there are complicated feedback mechanisms in the atmosphere that cannot be quantified precisely even by the most sophisticated and powerful climate models.

The report recommended that insurers, reinsurers and regulators evaluate the efficacy of the near-term hurricane models in light of this uncertainty.

"Catastrophe models are powerful, broad-based tools that are very good for particular applications," said Karen Clark, president of her self-named firm. "However, model users must recognize that there can be a very wide range of estimates associated with a given model metric, such as average annual loss."

The report also addressed what has been termed the Hurricane Frequency Paradox.

It said some scientists suggest there has been an increase in Atlantic tropical activity, based on growth in the tropical cyclone counts since data was first compiled in the late 19th century. Paradoxically, this apparent increase has not resulted in an increase in hurricane landfalls in the United States.

It said researchers at the National Oceanic and Atmospheric Administration (NOAA) have now concluded that the increase in annual storm frequency is in large part attributable to improvements in observational technology leading to the increased detection of tropical storms and hurricanes.

"If one estimates the number of storms prior to 1970 that were not detected, there appears to actually be a slight decreasing trend in storm frequency. In addition, we have not seen an increasing trend in hurricane losses when historical losses are normalized to current exposure values," said Ms. Clark.

RMS said her report demonstrated "a fundamental misunderstanding of the purpose of Cat models by asking whether they can be used to predict actual catastrophe experience in a particular one, two, or five-year period. It's important to understand that catastrophe models deliver probabilistic forecasts not deterministic predictions. A probabilistic activity forecast means that, on average, over many five-year periods, this is the number of hurricanes to be expected. The actual number experienced in a particular five-year period will be just one sample from a broad distribution of possible outcomes.

Last year, in response to the report, Peter Dailey, AIR's director of atmospheric science, said his firm rates hurricane risk based on years in which sea surface temperatures (SSTs) were above the long-term climatological mean. The Warm SST catalog, he said, "is not intended to predict insured losses in a particular year. Instead, it estimates the sensitivity of landfall risk to a typical warm ocean condition," and AIR offers its Warm SST catalog as a supplement to, rather than a replacement for, its standard catalog of Atlantic hurricane activity.

Eqecat last year said that the firm had misrepresented "the basis of natural catastrophe models for the infrequent risks which undercuts its conclusion."

The Karen Clark report, "Near Term Hurricane Models - Performance Update," is available at www.karenclarkandco.com.

Karen Clark & Company provides software products and consulting services for insurance companies to evaluate and improve exposure data processes, to understand catastrophe risk, and to utilize models and model results.

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