Over the last two years, insurers have been dealing with the most disrupted property reinsurance market since 1992.
Executive SummaryTraditional reinsurance capacity is shrinking relative to increasing risk, and a new risk transfer product—the modeled loss transaction—is providing additional reinsurance protection to insurers. This article explains how these transactions work and the benefits to reinsurers and ILS investors as well as to ceding insurers.
(Editor's Note: One of the co-authors, Resolute Global, announced the launch of "Footprint," an MLT, which Resolute Global created in collaboration with global reinsurance broker Gallagher Re and catastrophe modeling firm Karen Clark & Co., a firm led by the second co-author, in April 2023.)
As was the case in the post-Andrew era, reinsurers have abruptly hiked coverage costs, constrained capacity and limited cover by requiring higher retentions. Major reinsurers are pulling out of markets while insurers are pulling back from states like Florida and California.
Both now and then, systemic underestimation of risk is largely to blame.
Reinsurers now rely on catastrophe models to assess risk, and for the past 30 years, the focus has been on “tail” risks and probable maximum losses (PMLs). But the current disruption in the market has not been caused by an unexpected mega-event resulting in losses well above market expectations. Rather it’s been caused, in large part, by the unexpected frequency of smaller losses from the so-called secondary perils.
The catastrophe models that have been used most heavily by brokers and reinsurers were designed to capture the large loss potential from infrequent, high-severity events like hurricanes and earthquakes, and it’s been well publicized these models have failed to accurately assess the loss potential from the frequency (aka, secondary) perils like wildfires, winter storms and severe convective storms (SCS).