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The insurance industry since 1906 has seen and paid out its share of claims from catastrophic losses, but we fortunately have not yet experienced an insured-loss event greater than about $40 billion.
So imagine for a moment what kind of cataclysm would be required to top $1 trillion in total damage. Catastrophe modelers Arnaud Mignan, Patricia Grossi and Robert Muir-Wood at Newark, Calif.-based Risk Management Solutions have, and the risk, while rare, is quite sobering.
RMS recently published a study on the 1908 Tunguska explosion that devastated a remote area of Siberia. Scientists now believe that a comet or asteroid exploded several miles above the Tunguska River basin, leveling trees in an area of more than 700 square miles. Witnesses reporting seeing “a great fireball, bright as the sun.” The energy of the blast has been calculated as the equivalent of 10 megatons of dynamite, or about 1,000 times the force of the atomic bomb dropped on Hiroshima, Japan, in 1945. Fortunately, fatalities from the 1908 event were low as the blast area was sparsely populated.
Now imagine such a cosmic event occurring in a heavily populated area such as New York City. As one might expect, a Tunguska-type event centered over the Big Apple would be utterly devastating to people and property. RMS estimates that such a catastrophe would claim 3.2 million lives, injure 3.76 million more and cause more than $1.1 trillion in property losses. What that size loss would do to the insurance industry is pretty clear: never mind harden rates, it would virtually wipe out the global property/casualty industry.
The good news, if any, is that while asteroids and meteorites do impact Earth and occasionally damage populated areas, events of the Tunguska magnitude are rare. While historical data is lacking, particularly where comets or asteroids impacting Earth left no visible trace, RMS estimates a Tunguska type blast occurs once every 1,000 years.
I for one hope that Earth is spared, as managing risks from comets or asteroids is awfully difficult.
For centuries, seafaring European explorers sought a Northwest Passage through the Arctic as a shortcut to riches in the Orient. New research findings suggest that dream is becoming a reality.
The Catlin Arctic Survey, conducted earlier this year under the sponsorship of Catlin Group Ltd., took about 6,000 measurements of Arctic sea ice to gather data for scientists about whether, and to what degree, the sea ice is melting. Well, the results have been analyzed and released Oct. 15. The news is not good.
According to Professor Peter Wadhams, who leads a polar ocean physics group at the University of Cambridge, the Catlin team discovered that much of the Arctic ice is first-year ice rather than thicker, multiyear ice. That means it is susceptible to melting each summer and signals that the Arctic waters will be ice-free during the summer in perhaps 20 years, the professor indicated.
What stopped explorers including John Cabot, Jacques Cartier, Henry Hudson and Sir John Franklin from sailing through the Northwest Passage was pack ice. In 1906, Roald Amundsen succeeded, but it was not until 2007 that ice melt made such a voyage possible without an icebreaker.
Catlin sponsored the scientific survey to help answer questions about climate change, with the understanding that if climate change increases risks to people and property, the insurance industry will be looked at to respond. The jury is still out on the causes and effects of climate change, but it seems clear that change is occurring.
How should the insurance industry respond?
Compared to 2005 and 2006, capital flows into the reinsurance industry have slowed to a seeming trickle. Reinsurance experts say capital is still entering the industry but in more selective areas as investors’ risk appetites have changed.
At the Rendez-Vous de Septembre gathering in Monte Carlo this month, Business Insurance spoke with experts about reinsurance market developments, particularly on where capital will come from in the future.
“The risk appetite of investors has clearly gone down,” said Ian Dilks, global insurance leader at PricewaterhouseCoopers in London. “The reinsurance industry is going to have to fight for capital against ‘ordinary’ companies that investors can understand” more easily, he said. “People are concerned about asset risk and liability risk—it’s been about the asset side in the last year. Accounting methodologies around the world are not similar; they’re opaque. Add all that together and there’s less capital and investors are reticent,” Mr. Dilks said.
Bryan Joseph, a partner with Mr. Dilks at PwC in London, suggested that the “Bermuda class syndrome,” where capital flows into startups following a major loss event, is unlikely to attract many investors in the future. “Hedge funds are looking more opportunistically at the industry,” he said. “There will be more mergers. A lot of business plans (of the Bermuda startups, for example) had 15% returns on equity written in—they’re not achieving that.”
Bermuda is famous for its history of attracting capital and ability to let companies form quickly. How quick is quick? Following hurricanes Katrina, Rita and Wilma in 2005, several startups raised half a billion dollars or more in capital in a matter of weeks, and a few were writing reinsurance risks by January 2006. See a chart by Guy Carpenter & Co. L.L.C. on how much capital flowed and into what types of vehicles.
Mr. Dilks described the attractions of these companies for investors and how conditions have changed: “There used to be a time when you could sell a story to investors—no legacy problems, rates going up—you can’t sell that story to investors today,” Mr. Dilks said. “If rates are going down, it’s difficult to see what a good story is.”
Not surprisingly, as shares in some of the Bermuda startups are trading at or even below their book value, reinsurance intermediaries and others expect to see consolidation.
Investors also are “interested in taking direct risks in mergers and acquisitions,” said David Priebe, chairman of global client development for Guy Carpenter & Co. in Norwalk, Conn. “We’re seeing the M&A market moving again. Strategic acquisitions are taking place to fill out platforms. Over the next 24 months, M&A activity is likely to be robust,” he said.
“Capital is extremely expensive. Combining risk takers creates diversification,” said Rob Bredahl, chief executive officer of the investment banking group at Chicago-based Aon Benfield. “Cedents want bigger, better-rated reinsurance counterparties.”
What’s the right approach to enterprise risk management? This has been debated for seemingly as long as the term has existed.
Brian Duperreault, president and chief executive officer of Marsh & McLennan Cos. Inc., spoke this week in Monte Carlo at the annual Rendez-Vous de Septembre reinsurance gathering and gave his insights into ERM.
“The most fundamental thing, for me, is the CEO of a company is truly the head of ERM,” Mr. Duperreault said. “If ERM and management are synonymous, then you have the right approach. It has to be embedded in your strategy.”
If anyone should know about implementing ERM, it’s Mr. Duperreault. Before joining MMC, he spent most of his long career on the carrier side. He was an executive at American International Group Inc. and was tapped in 1994 to lead ACE Ltd.’s expansion. He built ACE into a global organization and retired in 2006 as its chairman. He now leads a company whose retail brokerage Marsh Inc. and reinsurance intermediary Guy Carpenter & Co. do a lot of advising on enterprise risk.
Mr. Duperreault said the financial crisis has pushed companies into an era of strategic capital management, and the best way to achieve that is to make decisions that are “informed by ERM.”
Quick responses to consumer trends can mean the difference between enormous profits and missed opportunity, and that is certainly true when it comes to technological innovations, but the risks are significant.
AT&T, the sole telecommunications carrier currently approved for Apple’s iPhone, may be learning just how risky tech ventures can be. A Heard on the Street column item in the Aug. 31 Wall Street Journal suggests that Apple may have gotten the better part of a 2008 deal with AT&T subsidizing part of the device’s cost.
The iPhone is a wildly successful handheld device that combines a wireless telephone with Internet access and Apple’s legendary iPod music player. The hype was high when iPhone hit the market in June 2007, retailing for up to $599 per device. Read Apple’s initial press release. More than 10 million iPhones have been activated since then. That is a lot of potential new customers for AT&T, but it appears that the actual percentage of new customers is much lower.
Paying more than $500 for a handheld device is steep, and since iPhone’s launch, many other wireless makers, including Research in Motion’s BlackBerry, have enhanced their devices. It’s a highly competitive market, which tends to push prices downward. With AT&T agreeing to subsidize the cost of iPhones, they now cost less than half their original retail price. A lower price point in theory helps boost sales, but remember that wireless technology doesn’t stand still. AT&T, meanwhile, warned that in the short term, its profit margins likely would drop.
Since 2007, two new generations of iPhone have been launched, the first of which required AT&T and other carriers to upgrade their networks. AT&T has an ongoing investment in that, with costs well beyond that of its iPhone subsidy in hopes of attracting new customers. It’s not clear yet whether AT&T will reap rewards following its investment, which it took a big risk in making.
It has been almost a year since the near-collapse of the world’s largest financial services organization, American International Group Inc., and under its new chief executive officer, the prospects for AIG’s survival are looking better than at any point in the past 300-plus days.
In September 2008, spiraling losses generated by AIG Financial Products amid the subprime loan crisis prompted the Treasury Department to step in and offer billions of dollars in emergency financing to AIG. That bought the company time, but it was forced to begin selling assets to generate much-needed cash and ultimately repay taxpayers. With the credit markets in shambles, AIG found few buyers able or willing to pay premium prices for those assets.
Some stock analysts suggested that if AIG sold off everything of value, shareholders in the holding company would have no real equity. Even after a reverse 20-to-1 stock split, the equity question gave investors pause, and the value of the shares dropped again.
But fast-forward a few weeks, and AIG’s prospects have brightened. The company elected Robert Benmosche, former CEO of MetLife Inc., as its new leader. He promptly gave investors some confidence by saying that AIG would not conduct a fire sale for assets, slowing down what had appeared to be an aggressive selloff. This week, AIG shares gained 30% in a day after it was reported that Mr. Benmosche has been consulting Maurice R. Greenberg on how to help the company Mr. Greenberg built and led for 37 years.
For his part, Mr. Greenberg has praised Mr. Benmosche’s election as CEO, even though Mr. Greenberg criticized the past three prior occupants of that post. If anyone knows what it takes to run an organization as complex as AIG is, it would be the man most observers credit for the success it achieved, Mr. Greenberg himself. Seeking his advice seems like a sensible move if AIG’s board and management are going to turn around the company’s fortunes.
For the fifth straight year, Business Insurance is sponsoring its Readers Choice Awards, a competition that invites readers to vote for the best overall providers of products and services to risk managers and benefit managers.
The categories include:
The deadline has been extended, to Sept. 4, but after that, the balloting will be closed. To vote, click here.
The winners will be announced and recognized at an event in the fall in Chicago, as well as profiled in the Nov. 16 issue and at www.BusinessInsurance.com.
Insured perils can cause all manner of havoc when it comes to business continuity, so understanding and mitigating business interruption risks are important steps for all risk managers.
Assessing business interruption exposures is no easy task, however. Expert help is useful, and qualified advisers can assist in business continuity planning as well as developing loss worksheets to file business interruption claims.
A firm that has many years of experience in such matters, Wilton, Conn.-based Dempsey Partners L.L.C., earlier this year created a proprietary methodology called X-V Analysis to help risk managers determine exposure values for business interruption risks and supply chains. That’s where the “X” and “V” come in. Business Insurance spoke with two Dempsey partners about business continuity planning and this new methodology in a video report that can be viewed below.
The more a risk manager understands the challenges and can calculate exposure, the better positioned his or her organization can be to address the risks. Unanticipated interruptions and weak links in supply chains don’t have to lead to unpleasant, and costly, surprises.
Business interruption risk management
It is no surprise that distraction and inattention are responsible for accidents of all kinds, but the risks soar when it comes to driving.
As Business Insurance Senior Editor Mark A. Hofmann reported in the Aug. 24 issue, multitasking by drivers is creating concerns about liability for employers.
There are ways mitigate the risk of accidents, but no amount of legislation will eliminate the problem. For example, half a dozen states ban use of handheld cell phones while driving, and 17 states prohibit text-messaging while behind the wheel.
Hands-free devices, whether they’re wired or wireless, can help avoid the need to hold a phone or other device, but conversations can distracting by themselves. As for e-mail, how many of us receive messages so urgent and important that they cannot wait for a response until we stop driving? We need to resist the temptation to multitask on the road, for our own safety as well as others’.
Ultimately, it’s up to every driver to monitor traffic and road conditions and decide when placing or answering a call or e-mail of any kind is prudent.
American International Group Inc.’s recent bylaw amendment to make its chairman independent is a smart move that more companies should emulate to improve their governance and risk management.
For most of its 40 years as a publicly traded company, the chairman and chief executive officer of AIG were the same person. That changed in 2005, when Maurice R. Greenberg retired after 37 years at the helm. For a couple of months in mid-2008, the chairmanship was again held by the CEO, when Robert Willumstad succeeded Martin J. Sullivan. Mr. Willumstad left AIG last September following its financial meltdown and rescue by the Treasury Department.
There are good reasons for companies to have more independent oversight on their boards, not least of which is that doing so creates checks and balances with senior management. Indeed, corporate watchdogs such as The Corporate Library issue letter grades to public companies about the makeup of their boards. Those with the highest grades invariably have a majority of independent directors and separate the roles of chairman and CEO.
Many insurance industry companies still concentrate the power of chairman and chief executive in a single person. If they’re truly sensitive to their organizations’ risk management, should they?
