Catastrophic Loss Estimates: The Numbers Are Numbing

Hurricanes Harvey, Irma, and Maria; California wildfires; Mexico earthquake—The numbers are numbing. 

Following the series of natural catastrophes clustered around the third and early fourth quarters of 2017, there was a parade of announcements from insurers and reinsurers providing their initial estimates of the associated incurred losses and earnings impacts. To many observers of the reinsurance and insurance ("risk") industries, there has been widespread impatience for access to firm numbers. This closely managed process is tedious and will take time as claim and accounting transactions are carefully completed.  The expectation is that the initial estimates will be restated, and most likely increased, as the assessments evolve. Insurers and reinsurers operate in an environment that relies on estimates—the hallmark of their business models. The rest of the market constituents and observers are focused on outcomes and the future.

Industry observers eager for solid data have filled the time with their own observations and conclusions. Some have hailed the confluence of losses as the long-awaited point where insurance rates will be significantly increased across the board, bringing an end to a long period of downward movement in insurance rates. Others predicted the demise of alternative capital markets now that they are "once and for all" experiencing significant financial losses from the risks they supported with their capital. Still others have anticipated credit rating downgrades and regulatory actions for a broad section of insurance and reinsurance companies—the frontline risk-assuming entities. If economic principles and market forces affecting the insurance and risk industries work and interact as expected, the ultimate and future outcomes will lie somewhere at the intersection of these conjectures.

The Current Statistics

From the outside, it is difficult to get a full perspective of the financial toll the catastrophic events of 2017 have had on the risk industries. Business Insurance has done an excellent job of obtaining and reporting the initial company estimates as they have been released.¹ The difficulty is that individual companies report financial loss estimates in different ways. Many companies report only net losses "after tax." While this may be acceptable from an accounting perspective, it does somewhat mask the "gross loss" numbers representing the fuller financial impact to the companies in the insurance and reinsurance industries. Other offsets may be applied, such as reinstatement premiums, expected reinsurance recoveries, etc. At the time of this article, the best, early industry estimate for insured third-quarter catastrophe events is thought to be between $100 and $150 billion. As a reference point, CNN Money reported on January 4, 2017, that the total economic catastrophe damage for the full 2016 year was $175 billion. Insured catastrophe losses in 2016 are thought to be significantly less than noted economic losses.² With this site line, the catastrophe events of third-quarter 2017 will have a huge impact on 2017's full financial results for the insurance and reinsurance industries.

In the Business Insurance article "Reinsurance Pricing Trends Still Unclear as Renewals Near," Doug May, executive vice president of Willis Re is quoted as saying, "There's a lot of uncertainty because no one really knows what the losses will develop to. No one knows what the business interruption loss will be in Houston, for example, so there will be a lot of uncertainty up to January 1 and into 2018."³

Comments like this apply to the "insured losses" that the industry is now sorting. It is a commonly held belief that a significant portion of the damages associated with a catastrophe event, such as a hurricane or earthquake, are uninsured. Some believe that insured losses may ultimately be only 50 percent of the total incurred catastrophe event losses. 

Beyond the financial impact, many industry experts and leaders are thinking about their strategies and approaches going forward. Fortune magazine published FactSet data, showing 50 percent of the S&P 500 cited hurricanes as having a negative impact on their third-quarter 2017 earnings.⁴ Regardless of how preliminary financial estimates have been set or reported, the financial impact is very large and significant for the risk and insurance industries, and others beyond.

An important perspective is that much of the discussion to date has focused on catastrophe events that are primarily "North American" events. As the risk and insurance industry is a "global" business, any discussion of the impacts of catastrophe events also needs to consider the additional catastrophic events across the globe, including Asia, Europe, Africa, etc., that also occurred in 2017.

The Reactions and Responses

As noted above, the impact on prospective renewal rates is unclear. The insurance economic environment is in flux, but it does appear certain that there will be changes in pricing, as well as methods of capital deployment for catastrophic peril exposures. A popular view is that across the board, rate and price actions will not be seen, nor are they viewed as being successful tactics to be implemented. More likely, price increases will be focused on catastrophe exposures, separate from general insurance rates for other property and casualty coverages. These pricing perspectives will become clear as economic, political, and social perspectives shape the future.

From the customer view, both personal and commercial consumers wonder about the financial and risk rating impacts. There may well be new paradigms emerging. Industry leaders are citing the need for new approaches to the management of financial capital deployed to protect against loss from catastrophic events and natural disasters.

Steve Levy, president and CEO of reinsurance at Munich Reinsurance America, said, "I think given the significant amount of losses the industry is going to recognize this year, we do have to come to grips with future profitability for the sector because the current situation is unsustainable. Generally speaking, you can expect a difference at January 1, but I think it's also a longer-term issue."⁵

Alan Schnitzer, CEO and chairman of Travelers, is quoted as saying, "While those events have understandably captured everyone's attention, that's only part of the story. Interest rates remain at historically low levels. Loss trends have outpaced rate and exposure for a few years now to a degree that many others in the industry are probably not earning their cost of capital."⁶

The Artemis blog post "Survival Not Guaranteed for Reinsurance Price Rise Seekers: Nash, Guy Carpenter," quoted James Nash, a reinsurance executive at Guy Carpenter in London, at a recent reinsurance meeting in Baden-Baden, Germany. "Nash explained; 'First, people and organizations will always want to protect their assets by laying off risk to others. Second, there will always be those with capital willing to assume that risk.' But around these two constraints, 'everything is subject to change,' Nash said. While the mandate for the industry remains the same as its core, the mode or method to achieve this risk transfer is changing dramatically and will continue to do so." Mr. Nash concluded with, "To manage disruption and to grasp the opportunities it creates, we must look to identify, evaluate, and package risk in a more intelligent manner."⁷

Change appears to be coming. What forms it will take is yet to be determined, but with risk and insurance industry leaders having these thoughts concerning financial sustainability, the distributors and consumers of insurance need to begin to prepare for changes in terms of how they structure and purchase risk protection for catastrophic perils.

Footnotes

1. Thomson Reuters, Business Insurance, "Swiss Re Latest Company To Estimate CAT Losses," October 20, 2017.
2. Charles Riley, CNN Money, "Natural Disasters Caused $175 Billion in Damage in 2016," January 4, 2017.
3. Matthew Lerner and Gavin Souter, Business Insurance, "Reinsurance Pricing Trends Still Unclear as Renewals Near," October 20, 2017.
4. Fortune Magazine, FactSet [Data], "Analytics: Seeing the Trends in Data," November 1, 2017.
5. Steve Levy, president and CEO, Munich Reinsurance America, Inc., as cited by Matthew Lerner and Gavin Souter, Business Insurance, "Reinsurance Pricing Trends Still Unclear as Renewals Near," October 20, 2017.
6. Alan Schnitzer, CEO and chairman, Travelers Cos., as cited by Gloria Gonzalez, Business Insurance, "CAT Losses Push Travelers' Profits Lower," October 19, 2017.
7. James Nash, Guy Carpenter, as quoted by artemis.bm Blog, "Survival Not Guaranteed for Reinsurance Price Rise Seekers: Nash, Guy Carpenter," October 23, 2017.