08 July 2010

Catastrophes Wanted: Climate Change and the Soft Market in Reinsurance

At the moment the property and casualty insurance industry is awash in capital -- so much so that it is making it difficult to make strong profits because the excess capital exerts a downward pressure on the pricing of coverage. This situation is what is known as a "soft market."

Last month, National Underwriter described the situation as follows:
With $100 billion in excess capital, the property and casualty insurance market is not turning, a Wall Street analyst said Thursday, and a carrier executive attributed existing conditions to the absence of AIGs historical price leadership.

The analyst, Jay Gelb, managing director of Barclays Capital, speaking Thursday at the S&P Insurance Conference held here, said the commercial lines and reinsurance markets will be soft for at least several years barring major catastrophe losses, or some other type of shock to industry capital.

Thats because the p&c insurers are overcapitalized. Its as simple as that, Mr. Gelb said.

It make strike some people outside the industry as odd, but what the reinsurance market needs is a big catastrophe, maybe even two:

Thomas Motamed, chairman and chief executive officer of Chicago-based CNA, gauged the impact of catastrophes on a market turn.

He said brokers often tell him that a catastrophe is needed to end the soft market.

They believe that will drive the market turn, [but] I dont believe that for a second, he said.

The big companies with strong balance sheets can afford to take some hits, he explained, adding that the best companies are well-capitalized—much larger than they were a decade ago, when a single catastrophe may have changed the market.

How about two catastrophes? he asked rhetorically.

These are companies that make $1 billion or $2 billion a year. What you would need is multiple events, he said, postulating a natural catastrophe, an accompanying financial crisis and perhaps a terrorist event.”

He suggested that a more important factor relevant to insurance pricing changes is what happens with the economy.

Until the economy gets better, people are not going to pay us more for the product, Mr. Motamed said.

In the context of the soft market, some in the reinsurance industry are looking for a justification to try to firm up the market, to justify increasing premiums. If the economics don't justify increasing rates, maybe there is some other justification? Here is an Australian Broadcasting Corporation interview with a representative from Munich Reinsurance:

"Climate change, we believe, is a fact."

Why?

His pockets are already hurting.

"Based on our own loss experience, climate change we believe is a fact. It triggers natural disasters, atmospheric natural disasters, and the number of these natural disasters worldwide has more than doubled since the 1980s, driven by atmospheric perils, not by earthquakes or volcanic eruptions," Mr Rauch said.

"If we look at the sheer number of losses from natural catastrophes worldwide since the 1980s, more than $US1,600 billion in losses have occured. Most of them were actually weather-related, not earthquakes, not geophysical events."

And he says the economic cost of these disasters, once you take out things like inflation and currency fluctuations, is increasing by 11 per cent a year.

So faced with these increasing losses, what are large insurers and reinsurers doing?

Well, they're putting up premiums of course.

Well, they are at least trying to put up premiums. But in the marketplace, it is difficult to use science to argue against the economics of the market. And the market says that reinsurers have plenty of excess capacity and losses have not been at all unreasonable in recent years, so the market is soft. Of course, it is especially difficult to use science to argue against economics when that science is just wrong.

Climate change is indeed real -- with a significant human component -- but to date, there has been no signal of human caused climate change in the disaster record. Don't just take my word for it, you can see that result in the peer reviewed research conducted by . . . Munich Re.

10 comments:

  1. Amazing that having too much money is really a problem. Also, naively, I can't believe they state "... a carrier executive attributed existing conditions to the absence of AIG’s historical price leadership.". If I didn't know any better, I'd call that collusion. Again naively, one would think that insurance companies would use the best forecasts possible to estimate loses and determine prices for various coverage. If the company starts amassing too much capital, that should be a clue that either they need this capital for a real disaster that should occur in the future or that their estimates were too high. If the second option is probable, companies should lower their prices and try to attract additional business.

    More to your main point, I hope someday there's more honesty that "there has been no signal of human caused climate change in the disaster record". Any increase in damage costs are due to inflation and rapid development along coastlines. There's not conclusive enough data around to say whether the strength or number of storms has increased or not because technology to monitor these storms has improved greatly over time.

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  2. Well spotted Roger !!

    The respected and revered former leader of Great Britain, Lord Blair Of Baghdad now promotes global warming for Zurich Insurance and others. As the man largely responsible for pushing through the Kyoto Protocol, it only seems fair that some of the loot goes to him.

    He is no doubt trying to persuade clients they must insure themselves against the weather. He will be able to persuade them with his inside knowledge of how bad things are really going to be.

    Tony Blair has taken a second big job with a leading financial player, attracted by the prospect of working on its climate-change initiative.

    The former Prime Minister has joined Zurich, the Swiss company, as an adviser. The appointment, thought to be worth at least £500,000 a year, comes less than three weeks after he took a similar role with J P Morgan Chase, one of the biggest investment banks on Wall Street. That was believed to be a package worth about £2 million a year.

    He will assist Zurich on “developments and trends in the international political environment”. His key interest, according to friends, was in its climate initiative, announced last week, developing products and research to combat global warming.


    http://www.timesonline.co.uk/tol/news/politics/article3266329.ece



    Tony Blair to earn millions as climate change adviser

    Tony Blair is set to earn millions of pounds advising an American businessman on how to make money from tackling climate change.

    The former prime minister will be paid at least £700,000 a year to act as a “strategic adviser” to Khosla Ventures, a venture capitalist firm founded by Indian billionaire Vinod Khosla.

    ...

    He has told friends he needs £5 million a year to fund his lifestyle.


    http://www.thisislondon.co.uk/standard/article-23838369-tony-blair-to-earn-millions-as-climate-change-adviser.do

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  3. Hi,

    Once again, I want to point out the potential value of a portable hurricane storm surge protection system.

    Suppose a Category 3 or 4 hurricane hits NYC in the next decade or two. The cost estimates for those events circa 2005 were $12 billion and and $70 billion, respectively.

    So why not protect NYC? One answer is that if NYC is protected, but all the money spent to protect NYC is wasted.

    So the solution is to develop something that can protect **anywhere** along the Gulf or East Coasts. Or even better, develop something that can protect not only anywhere on the U.S. coasts, but anywhere on any coast in the world, e.g. Bangladesh, Myanmar, Japan, the Netherlands, etc.

    The total value of coastal residential and commercial properties on the Gulf and East coasts alone is almost $9 TRILLION.

    http://www2.sunysuffolk.edu/mandias/38hurricane/hurricane_future.html

    And the value of this real estate is only going to increase as the decades pass.

    Of course, a major questions would be how a portable system would be built and deployed, how much it would reduce damage, and who would pay for it.

    The system could be designed such that it would protect only a small portion of the coast (say 10-20 miles) with an initial design, and if that design worked well, it could be expanded to protect 100-200 miles of coast.

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  4. Interesting that, as I recall, Dr Landsea, who is to hurricane prediction what Dr Moerner is to worldwide sea levels and Dr Reiter is to insect-borne diseases, resigned from the IPCC report preparation group over the very issue of whether greenhouse-driven warming would increase weather catastrophes.

    There is a common phenomenon throughout the world -- people universally trust their local newspaper, but say that the reporter got things all wrong on any story they have personal knowledge of.

    Dr P, I have the greatest respect for both you and your father as honest scientists in your fields. But I urge you to consider whether any conclusion that requires as much constant selling and coverup as the AGW theory does can possibly have enough actual scientific evidence backing it up to be believable.

    As for me, I take the Lily Tomlin view: "I try to be cynical but I just can't keep up."

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  5. #3 Mark,
    That sounds nice. Unfortunately I think you over-estimate forecast accuracy.
    http://www.nhc.noaa.gov/verification/verify5.shtml
    2nd graphic

    At 24 hours out the average error in prediction of cyclone location is about 50 miles. It only gets worse with longer time periods. At 72 hours the error is about 160 miles. Deployment would be a logistical nightmare in any reasonably time frame.

    I don't think saying oops when the wrong area is protected at great expense will go over well.

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  6. But Roger, the final sentence in the abstract of the paper by Schmidt et al. reads "This increase [4% per annum] must therefore be at least due to the impact of natural climate variability but, more likely than not, also due to anthropogenic forcings." It seems the paper leaves some room at least for anthropogenic climate change to have had an impact.

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  7. -6-Laurens

    Thanks for the comment. The paper certainly leaves room for such an impact and indeed hypothesizes that there has been such an impact. But showing impact and hypothesizing are very different. The paper states:

    "annual adjusted losses since the beginning of the last cold phase (1971) show a positive trend, with an average annual rise of 4% that cannot be explained by socio-economic components. This increase can at least be interpreted as a climate variability impact. There is no evidence yet of any trend in tropical cyclone losses that can be attributed directly to anthropogenic climate change. But we advance the premise that if losses are affected by natural climate fluctuations, they are also likely to be affected by additional global warming due to anthropogenic climate change. This premise is supported by indications that the intensity of tropical cyclones is affected by anthropogenic climate change."

    With the publication of Bender et al. and Knutson et al. I'd argue that the case for detection has become more difficult since IPCC 2007. Attribution is even further off.

    Muinch Re in its latest statements does not emphasize US hurricane impacts (which alone are responsible for >60% of the upwards trend since 1980 in their data!). They focus on floods. As you know the issues of detection and attribution with respect to flood damages is also fraught with difficulties.

    It is one thing to speculate and another to provide scientific evidence in support of a hypothesis. Muich Re often does much more of the former than the latter on this subject.

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  8. Hi Bob,

    You write, "That sounds nice. Unfortunately I think you over-estimate forecast accuracy."

    I make no estimates of forecast accuracy. The proper way to approach the situation, in my opinion, is:

    1) Figure out how much storm surge damage costs us now, and is likely to cost us in the next 1-4 decades.

    My understanding is that Roger's research on hurricanes shows:

    "Over the 106 years of record, the average annual normalized damage in the continental United States is about $10 billion under both methods..."

    http://www.nhc.noaa.gov/pdf/NormalizedHurricane2008.pdf

    Unfortunately, he didn't have a breakout of storm surge damage from total damage (i.e., from storm surge, wind, and inland flooding).

    Let's say storm surge was 50% of the total damage (with the other 50% being wind and inland flooding).

    So that's $5 billion a year. So let's calculate the present value of an annuity of $5 billion a year for the next 50 years...assuming a discount rate of 7%. It's about $70 billion.

    But suppose we can only reduce the damage by 50%. Then the present value is "only" $35 billion.

    In any case, the first order of business should be to answer the question, "What would a portable storm surge protection system that could protect any place on the East or Gulf coast be worth?"

    2) Brainstorm about potential designs. My current thought is that one promising design involves tubes filled with water and air. But it would be much better to come up with many competing designs, from people who understand storm surge more than I.

    3) Certainly, the accuracy of predictions of where hurricanes will land would factor into the designs. But that would just be one factor of many. Also, I think the figure you reference describes the accuracy of predicting the center of a hurricane...which is essentially in 3 dimensions (longitude, latitude, and TIME). So if the prediction is off by 50 miles at the 24 hour mark, it would (theoretically) be possible that the the hurricane eye would hit the exact longitude and latitude predicted, but just many hours later than predicted.

    I'm not minimizing the problems, but the first issue of designing and developing a portable storm surge system would be to answer, "What would such a system be worth, if it was developed and worked?"

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  9. Back in January, you had another insightful post where you said: http://rogerpielkejr.blogspot.com/2010/01/der-spiegel-on-ipcc-and-disasters.html

    ===quote===

    I don't think that it helps the IPCC when a company, even one as respected as Munich Re, explains that the needs of marketing quest for profits means that they cannot wait for the same certainties that science requires for proof. This is tantamount to admitting that the scientific case is not there. The decision to act in a certain way is a different issue than evaluating knowledge claims. Making educated guesses and taking risks is of course a fine approach to business and advocacy, especially when such guesses and risks are aligned with business and other interests. However, it is not a good way to operate a leading scientific assessment, which probably should adhere to conventional standards of scientific practice.

    Munich Re seems to imply that precaution means shaping the knowledge to fit a desired course of action. Precaution actually means acting in the face of irreducible uncertainties. Turning precaution on its head can corrupt scientific advisory processes, when uncertainty is misrepresented as certainty.

    It is worth noting that Munich Re has done some excellent scientific work on this subject which has been published in the peer reviewed literature. Like the rest of the peer reviewed literature on this subject, none of this work shows evidence for a link between increasing greenhouse gases and the rising costs of disasters.

    ===end quote===

    Last I checked, Munich Re, along with other major European re's, had a vested interesting in the carbon trading market as well as insurance. Over at WUWT, there is a post concerning the EU forcing carbon trading on airlines: http://wattsupwiththat.com/2010/09/27/cancel-all-your-european-travel-and-vacation-plans-carbon-trading-extortion-is-here/

    Follow the money.

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