1. Bringing Science to the Art of Underwriting™ TM Statistical Limitations of Hurricane Modeling Rick Anderson September 18, 2006

2. © 2006 Risk Management Solutions, Inc. TM 2 Agenda Hurricane severity Hurricane frequency

3. © 2006 Risk Management Solutions, Inc. TM 3 Uncertainty in Hurricane Parameters Hurricane parameters based on historical data –Non- Bayesian Allows statistical analysis of the uncertainty in the parameters We will look at 3 parameters –Central Pressure (CP) –Translational velocity (Vt) –Radius of maximum winds (Rmax)

4. © 2006 Risk Management Solutions, Inc. TM 4 Uncertainty in Central Pressure CDF

5. © 2006 Risk Management Solutions, Inc. TM 5 Central Pressure Uncertainty Analysis Low CP High CP

6. © 2006 Risk Management Solutions, Inc. TM 6 Effect of Central Pressure Uncertainty on Loss Costs

7. © 2006 Risk Management Solutions, Inc. TM 7 Effect of Translational Velocity Uncertainty on Loss Costs

8. © 2006 Risk Management Solutions, Inc. TM 8 Effect of Rmax Uncertainty on Loss Costs

9. © 2006 Risk Management Solutions, Inc. TM 9 Hurricane Frequency

10. © 2006 Risk Management Solutions, Inc. TM 10 Hurricane Frequency What is the “medium term” outlook for the frequency of hurricanes in the Atlantic basin? Medium term = 5 years (2006 – 2010) –Balance of responsiveness, stability, and usefulness Used a process of expert opinion elicitation

11. © 2006 Risk Management Solutions, Inc. TM 11 2005 RMS Expert Opinion Elicitation Workshop Held in Bermuda Oct 15, 2005 Tom Knutson GFDL, NOAA, Princeton, NJ Kerry Emanuel Professor, MIT Mark Saunders Professor, University College London Jim Elsner Professor, Florida State University

12. © 2006 Risk Management Solutions, Inc. TM 12 Findings of the Workshop Historical catalogue is considered complete for 1950-2005 in the Atlantic basin –Used for long term average frequency 1995 is recognized as the year at which the current period of higher activity began –Cycle or trend? Doesn’t matter for this purpose

13. © 2006 Risk Management Solutions, Inc. TM 13 More Findings of the Workshop 1995 - 2005 is representative of the next 5 years –2 El Niño years: 1997 and 2002 2/11 is close to long-term frequency of El Niño years 10% probability that activity will revert to long term average over the next 5 years Medium term Atlantic basin frequency –0.9 * (1995-2005 frequency) + 0.1 * (1950-2005 frequency) –Valid for all hurricanes (cat 1-5) and intense hurricanes (cat 3-5)

14. © 2006 Risk Management Solutions, Inc. TM 14 US Landfalling Hurricane Frequency 1900-2005 frequency = 1.6 hurricanes per year 1995-2005 frequency = 2.4 hurricanes per year Given the estimate of the medium term basin frequency, each expert opined on the probability that landfalling frequency would exceed 1.6 and 2.4. Translated these probabilities to mean frequencies –Assumed Poisson frequency distribution Average of expert opinions = ~30% increase over long term average frequency –Consistent with increase in Atlantic basin frequency

15. © 2006 Risk Management Solutions, Inc. TM 15 Hurricane Frequency – Going Forward Annual expert opinion elicitation workshops Next one in mid October –Directly following “Hurricane Eyewall Symposium” www.rms.com/2006eyewall/default.asp –3 of the 4 experts from last year, plus 4 additional

16. © 2006 Risk Management Solutions, Inc. TM 16 Summary Hurricane severity parameters are based on historical data –Non-Bayesian Hurricane frequency estimates are based on more information –Long term frequency estimates are based on historical data Non-Bayesian –Mid term frequency estimates include expert opinions Psuedo-Bayesian