P/C Insurers Cautious About Adopting New RMS Hurricane Model

By | May 10, 2011

Property/casualty insurers appear to be in no rush to adopt a controversial revised catastrophe model that dramatically raises certain estimates of potential hurricane losses in the country.

California-based modeling firm RMS released its revised hurricane model, version 11, in February. Some in the industry have predicted that it will lead reinsurers and insurers to revise rates and underwriting. It has been predicted that the new model, along with recent catastrophes around the globe, could trigger an end to the prolonged soft market.

Others have suggested that the RMS release has shaken insurer confidence in the use of catastrophe models.

But any real effects from RMS 11 could be some time in coming. According to RMS, carriers and brokers, the adoption of RMS 11 is going slowly. Also, just because the model suggests higher rates does not mean the market will follow, especially given plentiful capacity.

The real key to the model’s impact may turn out to be what rating agencies think of it and how they use it in assessing carriers.

The New Model

The changes in the model include updated construction and roof types, higher inland wind speeds, heightened building vulnerability, and increased losses due to storm surge.

As a result of the changes, RMS said it expects to see wind risk increase for all hurricane states on an industry-wide basis. However, individual portfolios will differ considerably depending on the region and line of business.

On a wind-only basis, portfolios consisting of inland or non-coastal exposure and commercial or industrial business will generally show the largest increases, while those concentrated along the coast will show the smallest increase in wind losses, and may even decrease in some regions.

The model points to increases in insurer loss results ranging from 20 percent to 100 percent and, in some cases of concentrated portfolios, even higher. Some loss estimates in Texas have doubled and those for Middle Atlantic states have also jumped significantly. Losses in Florida show smaller increases than other regions.

In releasing the updated version, Dr. Claire Souch of RMS said Florida remains the main driver of industry risk, but the firm’s view of other regions has changed because of “significant new information gathered over the past several years.” Texas and the Gulf states now contribute more to the overall risk profile than previously.

Insurer Reaction

According to industry leaders at the recent Risk and Insurance Management Society (RIMS) annual meeting in Vancouver, insurers are still evaluating the RMS revision.

J. Patrick Gallagher, Jr., chairman and CEO, Arthur J. Gallagher & Co., described carrier CEOs he has spoken with as “pretty measured” in their response to RMS 11. “It’s been pretty much of a simple, ‘We’re going to look at it; we’re not going to have a gut reaction to it or any knee-jerk change right now. We’re not exactly sure whether we even agree with RMS 11,'” Gallagher said.

Neal R. Aton, president and CEO, Wells Fargo Insurance Services, said he has heard “healthy skepticism” about the new model. He said he anticipates “there will be a slowness to adopt and that it’s very much an individual evaluation and less of a broad brush.”

Even RMS says carriers are taking their time and have lots of questions. Ryan Ogaard, senior vice president of NatCat and Portfolio Solutions at RMS, oversees business strategy and market-related activities for the company’s core cat model suite.

“We are hearing that full adoption will take time. We are very engaged with companies as they test the model and raise questions. The majority of these conversations are going well, but given the magnitude of the changes, there are more questions than we’ve seen in other releases and the adoption process is taking longer than usual,” said Ogaard.

Michael Kerner, CEO, Global Corporate, North America for Zurich, believes it’s still too early to gauge the effects of the new model. “We’re still in the process of evaluating and trying to assess what it means,” Kerner said at the RIMS meeting.

But Kerner is among those with questions about the model.

“In one sense, nothing has changed,” Kerner said. “I had a portfolio exposure yesterday, I have the essentially the same portfolio exposure today. Nothing has changed but the model tells me that something has changed.”

Effect on Pricing

In discussing his company’s first quarter results, Joseph Lacher, president of Allstate Protection, called the RMS model change a “clearly significant” one that could have a ripple effect in reinsurance pricing but one that has not changed what his company is doing. Lacher said most of his company’s business that might be affected is in Florida and that was placed before the new model was released.

That tracks with what Stephen P. McGill, chairman and CEO, Aon Risk Solutions, has seen in the marketplace. “We have not yet seen the ‘RMS 11 effect’ on the renewals we have been doing on the first of April and the first of May but that does not mean it won’t be more of an issue when we look out towards the end of the year,” said McGill at the RIMS conference.

Seraina Maag, chief executive, North American P&C, XL Insurance, said her company has run its portfolio using the new RMS model as well as other internal models and the “result is that we don’t actually see any impact.”

Similarly, FM Global, a property-only company, doesn’t see its operations being affected in any significant way, according to Shivan Subramaniam, chairman and CEO.

Ogaard of RMS said carriers are not yet changing their pricing but that may soon change.

“Are companies adhering to technical rates indicated by version 11? The answer seems to be ‘no’ right now, but we’ve seen a few comments in the latest round of earnings calls that anticipate increasing use of version 11 as the basis for technical pricing, particularly after July 1 renewals. Still, the use of technical pricing targets never guarantees that the market will support that pricing,” he told Insurance Journal.

Rating Agencies

Aon Risk Solutions’ McGill and others believe that a lot of the impact will rest with how A.M. Best, Fitch, Standard & Poor’s and other rating agencies view the RMS upgrade.

“I hope carriers will be measured in how RMS is applied but I think some of the concern comes to how the rating agencies are going to take RMS and actually how they are going to handle discussions with the carriers around the implementation of RMS,” McGill said.

Zurich’s Kerner agrees that what rating agencies do may be decisive. He said his company cannot ignore what the model says because others, including rating agencies, may decide to pay attention to it. He cited the news that Standard & Poor’s placed 17 catastrophe bonds on negative watch due to the RMS 11 introduction.

“This is a silly thing,” said Kerner. “Again, these cat bonds yesterday had one exposure, today they had exactly the same exposure and to put them on negative watch suggests to me that maybe that’s the way S&P’s going to approach our PMLs [probable maximum loss] and our ratings even though our exposure hasn’t changed.”

RMS says it has been meeting with rating agencies regularly. Ogaard said A.M. Best seems to be taking a “measured approach to adoption” and wants to review version 11 results when meeting with insurers that have significant catastrophe exposure.

At the same time, he said, A.M. Best appears most interested in a company’s plan to manage risk in light of the model change, rather than in the absolute number change, implying that there is an “adoption period and time for change to be absorbed by the company.”

“They have told us that some companies have been able to simply begin using the version 11 results as there is no impact on their rating or capital requirements. The real test is with companies who are already in difficulty regarding their rating,” Ogaard told Insurance Journal.

He said A.M. Best is going through the same process as reinsurers and insurers, looking at model results and working to understand the changes.

Topics Carriers Catastrophe Natural Disasters Agencies Florida Hurricane Property Casualty AM Best

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