Fitch: Katrina May be Most Costly U.S. Insured Loss Ever

September 2, 2005

Fitch Ratings on Friday updated its analysis of Hurricane Katrina. The range of estimated insured losses continues to be very wide and Fitch believes it will be a long time before these estimates are refined.

Nonetheless, various market participants currently estimate the insured loss to be between $9 billion and $25 billion. However, Fitch now expects insured losses to be closer to the high end of, or possibly above, the predicted range as the result of the factors listed below. If this is the case, Hurricane Katrina will represent the largest insured loss in U.S. history, surpassing the Sept. 11, 2001 terrorist attack and Hurricane Andrew, which cost $20.1 billion and $20.5 billion, respectively (in 2004 dollars).

A loss of this magnitude always has the potential to stress or even render insolvent some insurers. It is the smaller insurers with exposure concentrated in the affected areas that are at greatest risk of insolvency.

However, it is still too early to tell if this is the case and, if so, who is at risk of financial distress. Fitch does not expect insolvencies among the larger insurers, though some could face downgrades. At this point, no insurers have been put on Rating Watch since Fitch’s preliminary analysis of loss exposures indicate losses should be absorbable by Fitch-rated entities within current rating expectations. However, this is subject to adjustment as updated loss estimates become available.

Factors that Fitch believes increase the insured loss:

* The levee break in New Orleans is unprecedented. While not necessarily an insured loss, it complicates the settlement process and definitely increases the economic cost of the storm;
* Widespread business interruption losses are now expected. Business interruption policies have high dispute risk under normal circumstances and these are anything but normal circumstances;
* Fitch believes losses due to looting are generally not considered in the models used to estimate insurance losses and, therefore, not included in the published estimates;
* It will take a long time for insurers to adjust these claims due to the limited access to affected areas that resulted from the flooding. Insured losses have a tendency to grow when not settled promptly;
* Fitch believes there is a very high risk of disputes over coverage and insurers will be under intense public and political pressure to settle claims where it is ambiguous whether the damage is due to wind or flood;
* This event also appears to be a major environmental loss that could generate liability claims, which would be unusual for a natural catastrophe.
* Fitch also expects there is high risk of future loss reserve development (i.e., a high risk that initial loss estimates will be initially set too low and, therefore, will grow over time) since it will take a long time to settle these claims. This risk may be greater for reinsurers than primary insurers, who are closer to the ultimate customer and who have claims adjusters in the field to inspect damage.

Currently, it is not clear what ultimate affect the hurricane will have on the insurance industry. Hurricane Katrina is undoubtedly a large insured loss, perhaps the largest ever, and Fitch now believes it will have a material negative effect on 2005 industry earnings and, to a lesser extent, on surplus. Conversely, the magnitude of the loss may be the catalyst for price increases, which would be a mitigating factor.

However, it is not clear how price increases, if any, would flow through the system to the ultimate consumers since reinsurers, who generally face less regulation, will be able to quickly adjust pricing while primary insurers, who generally face significant regulation, may not be able to adjust prices.

Topics Carriers Catastrophe USA Profit Loss Hurricane

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