Residents work on their roof in a badly damaged neighbourhood in the aftermath of Hurricane Maria in St Croix, US Virgin Islands. Picture: Reuters

While short-term insurers and their re-insurers are tallying the hefty catastrophe losses of this year, actuaries are analysing the events for deeper insights into catastrophe risk to improve risk models.

Hannes van Rensburg, the chairperson of the short-term insurance committee of the Actuarial Society of South Africa, says a catastrophe can be severe for short-term insurers, because losses can quickly accumulate across a large number of risks and multiple types of cover, such as buildings, vehicles, moveable assets and life and health cover. 

Insurers generally purchase re-insurance to protect themselves from catastrophe losses. However, in extreme cases, the event could be large enough to exceed the re-insurance cover purchased and any losses above the upper re-insurance layer would pass back to the insurer.

He says many of the international re-insurers that partner with local short-term insurers would have taken strain following the three hurricanes (Harvey, Irma and Maria) in the United States and the Mexican earthquakes. He says this may have a knock-on effect globally, pushing up re-insurance premium rates for local insurers. This could lead to reduced profits or the need for additional capital. Short-term insurers therefore rely heavily on actuaries accurately to model risk and design adequate re-insurance cover, says Van Rensburg.

Although actuaries are able to advise insurance companies on the pricing and reserving of risk for everyday events with reasonable degrees of confidence, extreme events, such as natural disasters, require the use of catastrophe models.

Although catastrophe models help actuaries to predict an insurer’s potential exposure in case of a disaster, models can never predict with accuracy the full extent of the fallout. 

Van Rensburg says some events are so extreme that they occur only once or twice in an actuary’s career, if at all. This adds to the difficulty of building exact catastrophe models.

“While it is possible to anticipate extreme weather events, it is the unpredictable secondary events that often cause loss of life and economic damage.

“In the aftermath of every catastrophe, you will find insurance pundits discussing the specific features of that catastrophe that wouldn’t have been captured in their models. Secondary uncertainty, such as flooding following a windstorm or demand price inflation following an event, are features that catastrophe modellers are trying to incorporate in their models.”

Van Rensburg says that every actuary working for a short-term insurance company would have analysed the events that caused the devastation following the fires that ripped through Knysna and Plettenberg Bay in June this year.

He says regardless of how the fires started, the situation was made much worse by the strong winds. Although meteorological services were able to predict the strong winds weeks before they hit the shores of the Western Cape, there was no way of predicting the start of a fire, which was fanned out of control by the strong winds.

Van Rensburg says the fire presented the secondary effect that accompanied an extreme weather event and also caused the greatest loss.

Another secondary effect that often results from catastrophe events is healthcare-related.

“Some seven months after the Haiti earthquake, the island suffered its biggest outbreak of cholera. In light of this, we should definitely pause and think whether the Knysna disaster has been fully extinguished.”

Van Rensburg adds that demand surge inflation may also be a relevant factor in the case of the Knysna fires, impacting the final settlement cost of claims.

“Demand surge inflation follows a catastrophe event when the demand for a type of service or resource, such as builders and building materials, is very high with limited capacity available to satisfy the demand. This increases the prices of such services and resources.”

Van Rensburg says that gaining new insights into catastrophes and the various ways in which these events affect clients and insurers will drive the design of solutions that will provide consumers with adequate protection when catastrophes occur, without compromising the solvency of the insurers.

One notable example is the United Kingdom’s flood re-insurance programme, which has made it possible to extend insurance cover to high-risk homes.

“Catastrophes will undoubtedly remain a significant consideration in the capital- and risk-management processes of an insurer. The challenge for short-term insurance actuaries is managing the unknown variables that come with this risk and designing affordable products that will encourage consumers to insure themselves against this risk.”