2004 CAS RATEMAKING SEMINAR INCORPORATING CATASTROPHE MODELS IN PROPERTY RATEMAKING (PL - 4) ROB CURRY, FCAS

HURRICANE MODEL IN RATEMAKING l Why a Hurricane Model? l Hurricane Modeling l Use of Model Output in Homeowners Ratemaking l Revisions of Model l Other Uses of Model

TRADITIONAL EXCESS PROCEDURE l Based on historical insurance experience l Split historical losses into normal vs. excess l Calculate expected excess losses »Use historical average »Use many years »Use regional data »As a percentage of normal losses l Replace actual excess losses with long term average

LIMITATIONS OF TRADITIONAL PROCEDURE l Experience period too short

HURRICANE HISTORY LONG-TERM FREQUENCY OF HURRICANES Ten year moving average

LIMITATIONS OF TRADITIONAL PROCEDURE l Experience period too short l Changes in conditions

CHANGES IN CONDITIONS Growth In Population Density PEOPLE PER SQUARE MILE

LIMITATIONS OF TRADITIONAL PROCEDURE l Experience period too short l Changes in conditions l Difficulty in allocating to territory

ADVANTAGES OF A HURRICANE MODEL l A MODEL LINKS: »100+ years of meteorological data »damageability relationships by construction type »current distribution of insured exposure to risk

MODELING BASICS l Simulate type of hurricane l Estimate wind speeds from simulated hurricanes l Estimate the damage caused by those winds

HURRICANE MODEL l For each simulated hurricane a model: »Establishes probability of occurrence »Establishes storm path »Determines wind speed at a site »Determines damageability ratios (expected damage/building value) l Calculates expected damageability ratios at a location for all simulated storms

MODEL OUTPUT l Mean Damageability Ratios (MDR’s) by: »zip code or portion of zip code in a territory »building / contents / ALE coverage »construction type »single vs. multi-family homes

AGGREGATION OF ZIP MDR’s l NEED: Mapping of zip to ISO territory definitions l HAVE: Database with insured house values by zip and territory l TERRITORY MDR’s: »Calculate weighted average of MDR’s for individual zips comprising territory »For zip in multiple territories, allocate insured house values among territories

SAMPLE OF HURRICANE MODEL OUTPUT

SAMPLE CALCULATION OF WEIGHTED MDR

DEDUCTIBLE ADJUSTMENT l Model - percentage deductible l Convert $250 to percentage deductible based on average average amount of insurance l Model - MDR’s based on percentage deductible

CALCULATION OF HURRICANE LOSSES l MDR’s by Construction Type within Territory l Hurricane Losses = MDR x Amount of Insurance by Construction Type l Territory Hurricane Losses = Sum over Construction Types l Statewide Hurricane Losses = Sum over Territories

REMOVAL OF HURRICANE LOSSES l Meteorological history »storm tracks, 6-hour wind speeds l Model output showing wind speed contours l Need to know at what wind speed the model starts to accumulate damage l Reported wind & water losses available l Manually remove hurricane losses »Method varies by year based on level of detail available –Newer years => by date of loss –Exclude month of losses build back in average for month –Older years => Exclude entire year

ADJUSTMENTS TO REPORTED LOSSES l For each of latest 5 Accident Years: »REMOVE REPORTED HURRICANE LOSSES »$250 Deductible »Excess (Non-Hurricane) Wind Procedure »LAE Factor »Current Cost/Amount Factor »Projection Factor »Base Class Level

STATEWIDE LOSS COST EXAMPLE

CALCULATION OF HURRICANE LOSS COST l Statewide Hurricane Loss Costs from model l Apply Latest Year Current Cost/Amount Factor l Apply Projection Factor l Apply LAE Factor l Adjust to Base Class - Latest Year C & C Factor

STATEWIDE LOSS COST EXAMPLE Calculation of Hurricane Loss Cost

STATEWIDE LOSS COST EXAMPLE Indicated Loss Cost Change

TERRITORY LOSS COST CHANGES l Distribute statewide change to each territory l Compare combined non-modeled & modeled experience by territory to statewide experience l Adjust non-modeled loss cost to current year level

TERRITORY LOSS COST EXAMPLE

* Statewide Loss Cost Change = +9.3%

REVISIONS OF MODEL l Impact on Pending Filings l Education on Detail of Revisions l Evaluation of New Model Output for Reasonableness

REVIEW OF MODEL l Consistent with guidelines in ASOP 38 (Using Models Outside the Actuary’s Area of Expertise) l Compliance with standards of Florida Commission on Hurricane Loss Projection Methodology

Other Considerations l Level of geographic detail available to run the model l Insurance to value assumption l Is current book of business representative of future book?

OTHER USES OF MODEL l Pricing of relativities for secondary building characteristics »roof strength »roof covering performance »roof to wall strength »window strength l Territory Definitions