20 // THE DISASTER GAP: HOW INSURERS AND THE CAPITAL MARKETS CAN HARNESS BIG DATA TO CLOSE THE GAP


A BRIGHT FUTURE


Reinsurance convergence is one of the big topics of 2013 as pricing and coverage in the non-traditional ILS market comes into line with what is offered by traditional property catastrophe reinsurers. Institutional investors are showing an increased interest in and dedication to insurance products. As the market grows and develops it is clear the ILS sector is at a crossroad, with an as-yet unrealised opportunity to expand into new areas.


Whether the cat bond market is worth $50bn in five years or 10 years’ time, growth is clearly going in just one direction. Much of that future growth depends on the sector’s willingness to innovate to allow new risks to be transferred to the capital markets. This will require new underwriting approaches in partnership with the reinsurance industry and something akin to a leap of faith on the part of investors as they move outside of their comfort zone.


“Whilst I understand the modelled perils give you an extra layer of comfort, the differences between models show that modelling output cannot be taken at face value.”


Luca Albertini,chief executive officer of Leadenhall Capital Partners.


While ILS investors have a clear preference for modelled perils, cat modelling is an inexact science. “There is still a chunk of investors who want to restrict their mandate only to modelled perils, which is one I personally challenge,” says Leadenhall’s Luca Albertini. “Whilst I understand the modelled perils give you an extra layer of comfort, the differences between models show that modelling output cannot be taken at face value.”


Steve Evans agrees. “We all know models are there to give you a view of risk over the last 100 years and it’s very hard to predict the future in any meaningful way when you look at the frequency of an event happening,” he says. “You might say it’s a one-in-50 year event and then you might get three in the same year, as was the case in Florida in 2004.”


For investors to move outside their comfort zone of highly modelled risks like US hurricane an education process needs to take place. It is clear that while ILS investors have become increasingly comfortable with insurance risk over the past five years, this has been largely because the analytics applied to the peak risks are similar in nature to the models applied to other capital instruments.


There is less understanding and less comfort in applying the underwriting process to unmodelled perils. “Some investors who have a small allocation into this sector are using mathematical means for most of their portfolio, so they want to see it here as well,” explains Albertini. “The reason some of them are uncomfortable with non-modelled perils is that they haven’t been explained properly how these risk can be underwritten and that’s our fault as managers.”


IBM’s Alex Plenty noted: “The most forward-thinking operators in the catastrophe risk market are making use of an increasingly wide variety of data sets in order to understand the underlying risks and uncertainties more clearly. This includes unstructured data, fast changing data and data generated from an increasing number of sensors, mobile devices and social media applications. This trend will only continue and those which leverage this opportunity will be able to uncover hitherto unseen insight in the risks to which they are exposed.”


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