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TAX EXEMPT PRE-EVENT TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - CATASTROPHE RESERVES - IN THE WIND? IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

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3 s New York Dept of Ins factors: t Premium multipliers by state t Based on PCS data from 1950 to 1996 t Trended for Construction Cost Indices and Population Growth s Annual Reserve increment $2 Billion Origins of State Specific Factors

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Page 1: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

1

TAX EXEMPT PRE-EVENT TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES -CATASTROPHE RESERVES -

IN THE WIND? IN THE WIND?Factor Development

David FennellCasualty Loss Reserve SeminarSeptember 13, 1999

Page 2: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

2

Origins of state specific factors Factors by line of insurance Modifying factors based on judgement Advantages and limitations recognized in

the analytical approach

OutlineOutline

Page 3: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

3

New York Dept of Ins factors: Premium multipliers by state Based on PCS data from 1950 to 1996 Trended for Construction Cost Indices and

Population Growth Annual Reserve increment $2 Billion

Origins of State Specific Origins of State Specific FactorsFactors

Page 4: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

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Upcoming Year Cat Reserve47,000,000 to 385,000,000 (10)29,000,000 to 47,000,000 (9)16,000,000 to 29,000,000 (10)6,000,000 to 16,000,000 (9)

0 to 6,000,000 (13)

Annual Cat Reserve Annual Cat Reserve Increments Based on New Increments Based on New

York FactorsYork Factors

Page 5: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

5

Historical cat data not collected by line of insurance

$2 Billion funds some but not all cats $3.2 Bil annual average cost since 1950 $4.2 Bil annual average cost since 1967

Line Of Insurance IssuesLine Of Insurance Issues

Page 6: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

6

South CarolinaSouth Carolina

South Carolina - Allied Lines Losses

0

2

4

6

8

10

12

14

16

18

1967

1968

1969

1970

1971

1972

1973

1974

1975

1976

1977

1978

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

Year

Indu

syrt

Loss

Rat

io

Excess

Normal

Used A.M. Best data by state and line of insurance

Available from 1967Use statistical properties to separate catastrophic losses from typical losses

Cat loss is loss in excess of mean plus X * Std dev

LINE OF INSURANCE ISSUESLINE OF INSURANCE ISSUES

Page 7: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

7

South DakotaSouth Dakota

South Dakota - Allied Lines Losses

0

0.2

0.4

0.6

0.8

1

1.2

1.4

Year

Indu

stry

Los

s Ra

tio

Excess

Normal

For states with less severe catastrophic history, the method could not work as well

LINE OF INSURANCE ISSUESLINE OF INSURANCE ISSUES

Low credibility for some state/line of insurance combinations Some data cleansing necessary

Page 8: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

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Factors based only on historical averages may be high or low depending on recent history of major cats in a state

South Carolina hurricane New Madrid earthquake

Probabilistic modeling provided an alternative which could inform judgement

Multiple vendors solicited for modeling indications Team analyzed six sets of modeling indications to supplement historical losses

Judgement ModificationsJudgement Modifications

Page 9: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

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Some modeling indications were for commercial versus personal lines risks.

Line of insurance had to be inferred afterward.

Models treat different perils differently Tornado/hail separate from hurricane

Some modelers did not include indications for all states Varying composition of model output

Issues With Judgement Issues With Judgement ModificationsModifications

Page 10: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

10

ScatterScatter

Residential Hurricane/Tornado/HailScatter Plot

ALTERNATIVE X

NAIC FACTOR

AK

AL

ARAZ CA CO

CTDC

DE

FL

GA

HI

IAID IL IN KSKY

LA

MAMDMEMI MN MO

MS

MT

NC

NDNENHNJ

NMNVNY

OHOK

ORPA

RI SC

SDTNTX

UTVA

VTWAWIWV WY

The tool used for comparing methods was the scatter chart.

Page 11: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

11

Regression LineRegression Line

Residential Hurricane/Tornado/HailScatter Plot

ALTERNATIVE X

ALTERNATIVE Y

AL

ARAZCACO

CTDC

DE

FL

GA

HI

IAIDIL

INKSKY

LA

MAMDMEMIMNMO

MS

MT

NC

NDNENHNJ

NMNVNY

OHOK

ORPA

RI SC

SDTNTX

UTVA

VTWAWIWVWY

The agreement between methods was measured by the regression line.

Page 12: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

12

Residual PlotResidual Plot

Residential Hurricane/Tornado/HailScatter Plot

Stud. Residuals

-6

-5

-4

-3

-2

-1

0

1

2

3

4

5

6

State

AK

AL

AR

AZ

CA

CO

CT

DC

DE

FL

GA

HI

IA

ID

IL

IN

KS

KY

LA

MA

MD

ME

MI

MN

MO

MS

MT

NC

ND

NE

NH

NJ

NM

NV

NY

OH

OK

OR

PA

RI

SC

SD

TN

TX

UT

VA

VT

WA

WI

WV

WY

AKALAR

AZCA

CO

CTDCDE

FLGA

HI

IAID

ILIN

KS

KYLAMAMDMEMIMN

MOMS

MTNC

NDNE

NHNJ

NMNV

NYOH

OK

ORPARI

SCSD

TN

TX

UTVAVTWAWIWV

W

Residual plots from the regression detected outliers

Page 13: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

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Weighted RegressionWeighted Regression

Commercial Hurricane/Tornado/HailWeighted Regression

WTD AVG

MODELERS

NAIC FACTOR

AK

AL

ARAZ CA

COCT

DCDE

FL

GA

HI

IAID

ILIN

KSKY

LA

MAMDMEMI MNMO

MS

MT

NC

NDNENHNJ

NM NVNY

OH

OK

ORPA

RI

SC

SDTN

TX

UTVA

VTWAWIWV WY

Weights for each method were derived by team consensus based on perceived similarity of the alternative to our reserve approach.

Page 14: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

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OutliersOutliers

Commercial Hurricane/Tornado/HailWeighted Regression

Stud. Residuals

-6

-5

-4

-3

-2

-1

0

1

2

3

4

5

6

State

AK

AL

AR

AZ

CA

CO

CT

DC

DE

FL

GA

HI

IA

ID

IL

IN

KS

KY

LA

MA

MD

ME

MI

MN

MO

MS

MT

NC

ND

NE

NH

NJ

NM

NV

NY

OH

OK

OR

PA

RI

SC

SD

TN

TX

UT

VA

VT

WA

WI

WV

WY

AKAL

ARAZ

CACO

CTDC

DE

FL

GA

HI

IAID

ILINKSKY

LAMAMDMEMI

MNMOMS

MTNC

NDNE

NHNJ

NM

NV

NYOH

OK

ORPA

RISCSD

TN

TX

UTVAVTWAWIWV

W

States more than than two standard deviations from zero were considered candidates for modification.

Page 15: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

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Homeowners factors modified by judgement for CO, HI, KS, NE, OK

CMP factors modified for FL, HI, NV Allied Lines factors modified for AL, DE, FL, HI

Wind Factors ModifiedWind Factors Modified

Page 16: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

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Considerations for modification given to 12 states: AK, AR, IL, IN, KY, MO, MS, OH, SC, TN, UT, WA

Earthquake history for these 12 states was lacking Regression approach had to be adapted due to lack

of ability to fit a meaningful regression line Assumed that California had credible history and

forced regression line through it

Earthquake Factors ModifiedEarthquake Factors Modified

Page 17: 1 TAX EXEMPT PRE-EVENT CATASTROPHE RESERVES - IN THE WIND? Factor Development David Fennell Casualty Loss Reserve Seminar September 13, 1999

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Factors were built considering Exposure: Cost and population indices Funding: Best allocation of a fixed reserve increment

amount Frequency: Both modeled and historical Severity: Historical excess losses and model

simulations Credibility: Adjustments made in some premium line

of insurance combinations Data quality: Investigations uncovering data anomalies

led to some factor revisions

ConclusionsConclusions