C.1. Catastrophe modeling Flashcards

1
Q

Who uses catastrophe models and how?

A
  1. Insurers and reinsurers. To assess their exposure to risk.
  2. Reinsurance brokers. To assess risk for their clients to send to reinsurers.
  3. Capital markets. To price catastrophe bonds.
  4. Regulators. To assess insurer work (e.g., toreview rates based on models).
  5. Emergency management agencies. To determine the impact of an actual event, and coordinate an emergency response to areas most likely in need.
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
2
Q

Why regular statistical tools are inappropriate for catastrophe losses

A
  1. There is insufficient historical claim data for catastrophes.
  2. The limited data that is available is often inappropriate due to changing factors (property values, costs of repair, building codes).
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
3
Q

4 components of cat models

A
  1. Hazard module: Simulates natural disasters based on probabilities of different event parameters (epicenter and Richter scale magnitude of an earthquake)
  2. Inventory module: Contains the properties at risk and their characteristics (an insurer’s portfolio of insured homes, including details like construction type, insured amount, and property location).
  3. Vulnerability module: Estimates the susceptibility to damage of each property given a specific simulated catastrophe and property information (brick construction is good against hurricanes but poor against earthquakes).
  4. Loss module: Quantifies the direct (physical damage) and indirect losses (business interruption, relocation costs) of the event on each property.
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
4
Q

3 mains parameters of hazard module

A
  1. Location: Earthquake locations depend on locations of faults or seismic zones, hurricanes are more likely to occur in certain areas.
  2. Frequency: This parameter has the biggest uncertainty.
  3. Severity: This includes multiple characteristics. For example, earthquakes would include depth and fault characteristics in addition to just Richter scale magnitude. This would also reflect the upper bound on what is physically possible.
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
5
Q

Ways to model relationship between hazards and resulting damage

A
  1. Engineering judgement: base on expert opinion. It is simple, but also arbitrary and hard to update as new information becomes available.
  2. Building response analysis: based on advanced engineering techniques. More accurate but based on specific buildings and not applicable to an entire portfolio of policies.
  3. Class-base building reponse analysis: Diving the risks in different classes of buildings based on certain characteristics.
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
6
Q

Steps for class-bases building response analysis

A
  1. Identification of typical buildings: A typical building from each class is analysed in detail.
  2. Evaluation of building performance: For each class, a damage function is generated, linking the instensity of the force to the level of expected damage done to the typical building of the class. This enables the generation of damage ratios, which are ratios of repair costs to the replacement cost. Damage ratios and functions are created for each coverage.
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
7
Q

Approaches to determining monetary loss from an event

A
  1. Link the event parameters directly to the expected loss. This is primarily based on expert opinion. While this seems straightforward, this cannot be updated to reflect new construction techniques, building codes, repair costs, etc.
  2. The more recent approcha is to first estimate the physical damage from an event, and then use a cost analysis to translate this into monetary loss.
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
8
Q

Occurence exceedence probability definition and formula

A
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
9
Q

2 conditions on insurability on a risk

A
  1. The ability and quantify the probability of an event and the severity of a loss
  2. The ability to set a premium for each customer
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
10
Q

Considerations in setting rates for cat events

A
  1. State regulations
  2. Competition
  3. Uncertainty of losses
  4. Highly correlated losses
  5. Adverse selection
  6. Moral hazards
  7. Liquidity assests
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
11
Q

Simple formula for deciding whether to write new business

A
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
12
Q

Simple ratemaking model premium formula

A
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
13
Q

Types of attributes for which a model can calculate AALs

A
  • Structure attributes: These relate to the physical performance of a building during a catastrophe. Examplpes include construction type, occupancy type, building code, construction year.
  • Location attributes: These relate to proximity and susceptibility to hazard of the building. Examples include distance for fault lines, distance from the coast, soil type, etc.
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
14
Q

Reasons regulators have not been supportive of cat models

A
  • It is difficult for regulators to evaluate models since they require subject matter experts.
  • Modling firms are unwilling to share key proprietary elements of their models, especially in states that require governments documents to be publicly available (“Sunshine laws”).
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
15
Q

How models present a conflict for regulators

A

Models present a conflict for regulators, since they present a scientifically rational approach to quantifying the potential risk, however, the models could also be used by insurers as justification for charging higher rates.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
16
Q

CEA ratemaking constraints

A
  • Rates needed to be actuarially sound (adequate, not excessive or unfairly discriminatory).
  • If scientific information was used in ratemaking, it should be consistent with available geophysical data and the current knowledge of the scientific community.
17
Q

Examples of issues raised with initial CEA rates

A
  • Earthquake recurrence rate
  • Uncertainty values in estimating time dependent probabilities
  • Damage estimates
  • Underinsurance factor
  • Demand surge
  • Policy sublimits
  • Rating plan deviation
  • Retrofit discount
18
Q

Open issues in cat models in ratemaking

A
  • Regulatory acceptance
  • Public acceptance
  • Actuarial acceptance
  • Model to model variance
19
Q

ASB requirements for actuaries using cat models

A
  • Determine appropriate reliance on experts
  • Have a basic understanding of the model
  • Evaluate whether the model is appropriate for the intended application
  • Determine that appropriate validation has occurred
  • Determine the appropriate use of the model
20
Q

Types of uncertainty in cat models

A
  • Aleatory: The inherent randomness associated with natural hazard events. This is usually reflected in the probability distributions. This is the cat version of process risk.
  • Epistemic: The uncertainty due to our lack of knowledge of the hazard. This is the cat version of parameter risk.
21
Q

Reasons for epistemic uncertainty

A
  1. Limited scientific knowledge
  2. Limited historical data
  3. Cross disciplinary nature of cat models
  4. Lack of data to create the Geographic Information System databases
  5. Lack of accurate data on true market values
  6. Limited understanding of material performance. (Laboratory testing of structural material is limited to certain types of materials only)
22
Q

Ways to incorporate uncertainty into models

A
  1. Logic trees: Displays the alternative parameter values or mathematical relationships, along with associated weights for each alternative. Alternatives are then weighted together to produce weighted estimates for each parameter or relationship.
  2. Simulation techniques: Simulation can be used to model a real system by building a model that attempts to replicate the system’s behavior.
23
Q
A
24
Q

Special issues insurers need to account for in managing their portfolio risk

A
  • Data quality: Insurers need to make sure the data used for the inventory module is accurate.
  • Uncertainty modeling: Losses should be allocated to stakeholders based on probability distributions.
  • Impact of correlation: Having a more diversified portfolio reduces the risk of a single event resulting in damages to a large portion of the portfolio.
25
Q

Underwriters considerations when adding a policy to the portfolio

A
  • The magnitude of the risk
  • Correlation with the eisting portfolio
  • Highest premium the risk is willing to pay