Grossi Flashcards
4 basic components of a catastrophe model
- Hazard
- Inventory
- Vulnerability
- Loss
Describe Hazard component of a CAT model
- Describes the natural catastrophe
- the description might include items such as earthquake epicenter location, projected hurricane path, hurricane wind speed, etc
Describe Inventory component of a CAT model
- Describes the portfolio of properties at risk
- The description might include items such as the location of each exposed property, the construction type of a building, the number of stories of a building, etc.
- The location description is often based on geocoding, which assigns a latitude and longitude to the exposed property.
Describe Vulnerability component of the CAT model
- combines the hazard with the exposed properties to calculate the physical impact of the hazard on the properties.
- this module determines the severity of the impact on the property
Describe Loss component of the CAT model
- Determines the direct and indirect losses of the hazard on the exposed properties
- Direct losses include the cost to repair and/or replace a structure
- Indirect losses include business interruption impacts and relocation costs of residents forced to leave their homes
How Catastrophe models can be used by various stakeholders
- Insurers use model output to understand what level of reinsurance protection is needed to ensure solvency in the event of a catastrophe
- Reinsurers use model output to price catastrophe covers
- Capital markets use model output to price catastrophe bonds.
- Emergency management agencies (such as FEMA) use model output to understand where the largest concentration of loss will occur in the event of a specific catastrophe
Ways that insurers and reinsurers use exceedance probability (EP) curve
- To determine the size and distribution of their portfolios’ potential losses.
- To determine the types and locations of buildings they would like to insure, what coverage to offer, and what price to charge.
- To determine what proportion of their risk needs to be transferred to either a reinsurer or the capital markets
Two conditions for a risk to be consider insurable
- The ability to identify and quantify the changes of the event occurring (frequency) and the extent of the losses likely to incurred (severity)
(the estimates of frequency and severity can be based on past data, cat modeling, and expert opinion) - The ability to set premiums for each potential customer or class of customers
Factors that influence the rate charged by the insurer
- Uncertainty of losses
- If insurers are unable to produce precise estimates of the risk, they might set higher premiums to account for the additional uncertainty. Loss uncertainty is particularly challenging for catastrophes given the nature the events. - Supply Shortages
- If the capacity of the insurance industry is reduced due to recent large losses, the insurers might charge higher premiums. - Highly correlated losses
- Natural catastrophes result in correlated losses given that a single event can result in multiple losses.
- When an insurer issues a large number of independent policies, then the losses from the policies should follow the law of large numbers (the variance around the mean of the random variables decreases as the number of variables increases)
- Since natural catastrophes result in higher correlated losses, they do not follow the law of large numbers - Adverse selection
- Adverse selection occurs when an insurer fails to distinguish between the expected losses for different risk groups. In this case, the price does not differ between the groups and the better performing risks will shop for coverage from insurers who recognize their better performance.
- Adverse selection is not a major issue for catastrophe risks given that catastrophes can affect anyone at anytime. - Moral Hazard
- Moral hazard refers to an increase in the expected loss caused by the behavior of the policyholder.
- Moral hazard is not a major issue for catastrophe risks
Describe probabilistic approach to model catastrophe losses
- The hazard module estimates the probability that the physical parameters of the hazard will exceed various levels.
- The vulnerability module estimates the probability that structure damage will exceed various levels as a result of the hazard
- These two modules comprise what is traditionally known as probabilistic risk analysis
3 elements that the hazard module addresses
- The most likely locations of future events
- The frequency of future events
- The severity of future events
How to identify locations of future Earthquakes and Hurricanes
For Earthquakes, we should identify faults and seismic source zones that could have a significant impact on the building inventory being analyzed.
For Hurricanes, identify geographical distribution through storm tracks (shows where the storm is going to go), landfall location, and track angle at landfall
How to estimate frequency of future Earthquakes and Hurricanes
For Earthquakes, historical data can provide an estimate of event frequency. It’s also common to model the relationship between the frequency of earthquake occurrence and their magnitude. (Larger magnitude losses occur less often)
For Hurricanes, the frequency of weather hazards tend to reflect the regional climate. Hurricanes form where there is a large area of warm water and there is a lack of vertical wind shear
2 spots to estimate the damage potential of natural hazards
- The source
- The sites of the affected building inventory
How to estimate severity of future earthquakes and hurriances
For earthquakes, source parameters includes things like earthquake magnitude and fault-rupture characteristics and local intensity parameters includes things like seismic wave amplitude which is impacted by the local terrain.
For hurricanes, source parameters includes things like forward speed and barometric pressure and local intensity parameters include things like local windfields which is also impacted by the local terrain.
Two major steps in the application of a engineering-based vulnerability approach to insurance portfolios
- Identify and define typical buildings in the modeled region
- Calculate the building performance to ground motion or winds of different intensities
Two types of uncertainty in CAT model
- Aleatory (the process risk of CAT models: it’s the inherent uncertainty or randomness associated with CAT events)
- Epistemic (the parameter risk of CAT models: since natural hazards are ever changing and infrequent, there is an incomplete knowledge of the risk)
