Approaching Nirvana, or Another False Dawn…?

Approaching Nirvana, or Another False Dawn…?

After years of weak pricing across most product categories, 2020 produced some signs of the long-fabled “hard market” for P&C underwriters.

According to the Marsh Global Insurance Market Index pricing rose by an average 22% year-on-year for the last quarter of 2020, with the trend having accelerated since the end of 2018, when it was only 2.1%. And the average masks some wide disparities- 7% in Casualty, 20% in Property and 47% (sic) in Financial Lines.

To say that such increases are needed would be an understatement. The industry as a whole has been barely profitable at the underwriting level (although with wide company-level disparities) over the past decade, meaning that reported profitability has depended on investment results, which have been somewhat more stable, albeit decreasing also. Of course, 2020 demonstrated how volatile such returns can be quarter-by-quarter, with the possibility of rising US interest rates threatening at least “interim pain” in investment portfolios heavily weighted towards bonds and other fixed income products, before re-pricing begins to occur. As Warren Buffett said recently: “Bonds are not the place to be these days.” He could be wrong, but adding the perception of higher investment risk to underwriting uncertainty must give senior industry executives pause for thought.

Of course, the question arises as to how much of the increase in premium rates will flow through to the Combined Ratio on a net basis. After all, “social inflation” remains endemic, while costs for managing claims are also rising. Add to that persistently elevated numbers of catastrophe events (whether “natural” or not), as well as uncertainties around the true scale of risks such as cyber, and concerns that greater climate risk represents a “new normal”, and one has a combination that makes forecasting underwriting outcomes increasingly difficult.

The events of 2019 and 2020 have, in predictable fashion, created a new “Class of 2020/21” cohort of entrants into the P&C (re)insurance arena, all promising to be disciplined and selective in their underwriting, and claiming to benefit from “cutting edge”, technology-driven approaches, free of legacy liabilities or systems. We welcome their entrance, and will watch with interest as to how many of them produce underwriting results which confirm that they truly have a sustainable “edge” (given that most of them have been founded by long-standing industry stalwarts), or demonstrate that they have well-controlled and flexible cost bases in an industry notorious for their lack.

Furthermore, in an era in which the industry should now have the ability to parse its wealth of historical data to produce much more granular and truly risk-adjusted pricing, even in the face of rising uncertainties in certain categories, we also hope to see evidence of that in underwriting results by class of business, and that underwriters will be able to avoid seeking volume at the expense of discipline (an abiding sin) simply because nominal prices have risen significantly. After all, most industries would be more than happy with an average 22% year-on-year increase in realized pricing!

At Awbury, we believe that properly-informed, value-added pricing, based upon rigorous underwriting, is key to building and maintaining our franchise; and that being lured by the potential chimera of much greater business volumes is simply foolish. So, we shall continue upon our path of an incremental, iterative and adaptive increase in scale, being inherently skeptical that this time the pricing cycle is somehow different for the industry, even though we shall be delighted if it proves to be so.

The Awbury Team

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That was the Pandemic that was…?

So, even though we now know that the SARS-COVID-2 pandemic had its origins sometime in late 2019, if not earlier (hence COVID-19), this past week marked the anniversary of the WHO (after considerable procrastination) declaring it a global pandemic- and we all know what happened next, because we are still living through its consequences.

From the point of view of (re)insurers, one can perhaps point to a few lessons that are worth thinking about and internalizing, even if many may seem obvious, because the “obvious” is often overlooked or underestimated because it is given little attention:

– Risk models are only ever a work in progress
– Your past experience can lead you to make and apply the wrong assumptions
– As the philosopher Franz Brentano said: “What is at first small is often extremely large in the end. And so it happens that whoever deviates only a little from truth in the beginning is led farther and farther afield in the sequel, and to errors which are a thousand times as large”. In other words, seemingly small errors can compound
– One really does have to plan for the worst case. That should be a truism for any (re)insurer, but sometimes no-one wishes to believe that worst cases really can and do happen
– It is not always just about the data. Perceptions and beliefs matter because they affect behaviours, which then have consequences. The pandemic demonstrated that very clearly
– It is not just the scale, or political composition of a government that matters, but rather its quality and competence. The same would apply to any bureaucracy
– Speed of decision-making matters, but the process must be clear, unambiguous, and not easily manipulated. While the perfect is the enemy of the good, irreversible decisions must be recognized and identified as such and given proper attention in case they lead to poor outcomes
– The clarity of policy wordings matters. Whatever the merits of the arguments that have taken place in the past year over, say, Business Interruption coverage may have been, the number, content and variation of policy wordings involved led to an outcome which it is highly unlikely anyone wished for
– Governments can act within their powers, and one can have no practical recourse if those decisions harm you or your business
– How much balance sheet volatility is tolerable? Can you control and manage it, or simply absorb it? Reacting and then regretting is to be avoided
– Always look at the other party’s motivation and incentives, ensuring interests are aligned to the extent possible
– Those who cannot, or will, not adapt and learn, will fail.

In human terms, the pandemic has been devastating for individuals, families, whole industry categories, and societies. (Re)insurance ultimately exists to help individuals manage the risks in their lives, whether directly or indirectly. Any entity is based upon individual effort and capacity, even though it may be described in the abstract. The industry forgets that at its peril. However, it also worth pointing out that it has demonstrated its robustness in the face of the greatest economic crisis in several generations; and can rightly be proud of that.

The Awbury Team

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Schelling Point as Selling Point…

You may think the title is a play on words. It is- but with a purpose.

In Game Theory (as developed by John von Neumann and Oskar Morgenstern), Nobel Prize winner Thomas Schelling subsequently described what became known as Schelling Points. These are Focal Points, or places where people tend to go in the absence of being able to communicate directly. The classic example in New York City would be the information kiosk at Grand Central Station for 2 people who had arranged to meet, but had then lost contact. It might not work, but it would be the option that would be most likely to. Another way of looking at a Schelling Point would be as the “default setting”, or place/product to which people tend to gravitate almost without conscious thought. And what were and are markets if not places to “meet” and communicate, even if not always physically?

In some ways a Schelling Point is also a form of capital, as it confers an advantage in terms of salience and importance. Consider, for example, the world of venture capital and business start-ups. Anyone asked the question about where one would wish to go first (at least in the US) as a start-up entrepreneur would be most likely to answer “Y Combinator”, which has built an extraordinary franchise over the past 15 years, serving as the starting point for now famous businesses such as AirBnB, Stripe and Instacart, to name a few. Why? Because it became the accepted focal point.

Of course, the fact that “X” acquires such a status can become the source of stagnation if no adjustments or improvements are made as the world changes around it. One has always to guard against complacency, and Schelling points are not necessarily static.

Nevertheless, clearly there is a value in being one.

If one looks at the realm of (re)insurance, at one point the Lloyd’s Market would have been the most obvious place anywhere to go to obtain insurance, and its wordings the standard, which vastly decreased frictional costs for Insureds. Since then, competition and commoditization have led to a much more diversified industry, yet at the same time often an underperforming one in terms of its core purpose of effective underwriting, with cost structures that are no longer fit for purpose, and in which needless and heedless complexity is pursued as a means of “differentiation”. The constant search for a competitive edge is the basis for innovation, but it comes at a price. There is a constant tension between competition and monopoly, as is increasingly visible in the “Tech” world. If there any Schelling Points, they are probably the London Market (for insurance) and Bermuda (for reinsurance).

So, whatever your business model or segment may be, the goal should be to become known as the most obvious and effective Focal Point for fulfilling the needs of your intended customer base. If you do, you stand a better chance of building and compounding scale and effectiveness. In other words, seek to be “front of mind”, so that the idea of reaching out to you becomes an obvious one, and almost automatic.

The Awbury Team

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It’s improbable…

A quotation: “There is a tendency in our planning to confuse the unfamiliar with the improbable. The contingency we have not considered seriously looks strange; what looks strange is thought improbable; what is improbable need not be considered seriously.” Thomas Schelling, a game theorist and nuclear strategist.

An apt warning for any underwriter!

Consider, for example, climate risk, a topic which was barely considered even a generation ago and has now become “endemic” in terms of being a material focus. It is not as if traditional (re)insurers are unfamiliar with climate-related risks. After all, what else is much of the NatCAT business but a probabilistic assessment of exactly that? However, because the boundaries appear to be changing, what were seen as “reasonable verities” no longer are.

Of course, the Earth’s climate is a complex system; which means that what was hitherto thought improbable can happen if the inputs within that system change, as they have been.

So the question becomes, in any assessment or analysis of a risk, whether or not one has confused the unfamiliar with the improbable. The current pandemic was an unfamiliar risk, perhaps, but it was certainly not improbable. There were clear precedents.

Similarly, in the realm of the credit, economic and financial risks in which Awbury specializes, it is all too easy to believe that past is prologue, and so it is improbable that “new” and unexpected risks will arise, or existing ones change their frequency. However, one should perhaps try telling that to (re)insurers grappling with exposures to businesses that suddenly had no revenues, and with uncertain prospects for recovery.

As usually tends to be the case, it is our own inability or unwillingness as a species to understand or accept the “improbable” that makes us vulnerable. We know that bad things happen, and every underwriter is properly paranoid about “event” risk. We create “emerging risks” committees, and checklists to try to fathom the improbable but potentially real, yet we are far better at seeking precedents from the past, and latching on to them, than at taking a realistic view of future probabilities. There is no point in being right even a hundred times, if being wrong once ruins you, which is the whole point of diversifying risk portfolios, and identifying and managing correlations and aggregates.

If that is the case, how is one to create a process that reduces the risk of being over-exposed to the improbable, and does not set the bar for the “impossible” too low?

In the view of the Awbury Team, we believe that the best way to do this is, for every risk we underwrite, and once we have created our core thesis as to why the risk/reward ratio on a particular risk meets our already stringent criteria, to ask a very simple pair of questions: “But what if we are wrong? What could invalidate our thesis?” We can do this because our business model is built upon the provision of carefully structured, bespoke solutions for our broad range of clients, rather than commoditized “flow” business. We can explicitly try to “test to destruction” ex ante every risk we take- while still being completely paranoid about what we may have missed!

The Awbury Team

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And now for my next crisis…

It is the issue that will not go away; the one that no doubt is most likely to keep the US DoD’s war planners and military strategists up at nights- a Chinese invasion of Taiwan to bring what it sees as a recalcitrant “province” back into the fold.

We have written before about the so-called Thucydides Trap in which a hitherto dominant hegemon feels challenged by a rising power, eventually precipitating a ruinous war- with the US and the PRC now fulfilling the roles previously taken by Athens and Sparta some 2,400 years ago. As Thucydides pointed out, wars are usually fought because of fear, honour and (perceived) advantage. It is no accident that the Chinese military recently chose to wargame an attack on a US aircraft carrier group, while also increasingly violating Taiwan’s airspace.

Of course, the argument is made that it would not be rational for the PRC potentially to provoke a military response from the US by attempting to invade Taiwan (with amphibious invasions generally being seen as the most difficult type of conventional military action to conduct), but a number of questions need to be posed:

– What if the PRC mounts a “creeping coercion” of Taiwan short of actual invasion?
– At what point does that provoke a “kinetic response”, whether from Taiwan and/or the US?
– If President Xi sees himself as the “reuniter” of the Middle Kingdom, what might change his calculation of the risks and mean that he picks the moment to move from threats and rhetoric to action? After all, the PRC’s government has acted in recent years in ways which clearly have an “I dare you to stop me” subtext

Objectively, such an action would make no sense. The PRC is integrated into the global economy; and it would likely bear a heavy price if it “overstepped boundaries”.

However, what exactly are those boundaries? And who has the balance of advantage? The argument that somehow China can be contained in the same way as occurred during what now might better be called the First Cold War with the then USSR is facile to say the least. The economic heft of the USSR never remotely challenged that of the US, and that “competition” was at least one key element in the eventual collapse of the USSR and its “empire”, whereas the size of the PRC’s economy (depending upon how one measures it) now at least approaches that of the US.

The only realistic way to maintain a comparative advantage, and ensure that the PRC’s government continues to think twice about re-incorporation by force, is for the US (and its allies) to out-compete the PRC in economic and geo-political terms, and make it very clear that a “red line” means exactly that. Unfortunately, recent precedents and actions do not yet engender much confidence that such an outcome is likely. There is a credibility gap still.

No country, empire or regime is invulnerable, including that of the PRC. Nevertheless, while the world as a whole has many pressing issues to address, even putting the impact of the pandemic to one side, the idea that a PRC invasion of Taiwan is a risk that is “too far out in the tail” strikes one as the equivalent of being adamant, ex ante, that what happened in the Great Financial Crisis could not happen, because it was not within the parameters of any “realistic” financial model, and so being unprepared for when reality collided with those models. Reality won, not surprisingly.

The Awbury Team

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It’s a Mad Mad Mad World…

The events of the past week or so in the “real world” have been interesting enough (vaccine nationalism, a Myanmar coup, just the odd example of geopolitical sabre-rattling…). However, if one has a taste for the baroque and enjoys a little financial excitement, the GameStop/Robinhood/Melvin Capital/et alios saga, with its additional cast from a Reddit sub-thread, certainly provided an object lesson in how, more often than one might expect, the financial markets “lose it”; and brought back nostalgic memories of the demise of Long Term Capital Management (LTCM) in 1998.

After all, GameStop was generally seen as a failing “bricks and mortar” retailer, which had missed the shift in gaming to the internet and cloud, and so was ultimately doomed to go bankrupt, or at best undergo a lengthy re-structuring. As a result, it was one of the most heavily shorted stocks, with some hedge funds, particularly Melvin Capital, having unusually large positions. Unfortunately for the “shorts”, we all witnessed one of the most violent “short squeezes” ever, that overwhelmed the resources of Melvin Capital (which reportedly lost 53% of its value in January) and, as collateral damage, forced the Robinhood trading platform to seek billions of dollars in emergency capital, not once but twice.

While one might say: “But why does any of this matter to the (re)insurance market?”, we think there are a few points worth making:

– The market price of GameStop moved to levels that bore no conceivable relationship to the company’s intrinsic value, and one, relatively insignificant stock suddenly became one of the most highly-traded on any exchange. Just because you think that something is ludicrous, or irrational, does not mean it cannot happen. As the saying goes: “The market can remain irrational longer than you can remain solvent”
– Avoidance of ruin has to be at the core of any risk management strategy. The right side of the distribution is important for long term value creation, but only if the left side is contained
– One needs to be aware of how important interconnectedness is, and understand the intricacies of the markets’ “financial plumbing”. The Great Financial Crisis (GFC) provided evidence of that. In this case, Robinhood’s obligations to a key US central clearing house(the National Securities Clearing Corporation, NSCC) grew so rapidly that NSCC reportedly made a demand to Robinhood for USD 3BN in collateral to enable the company to continue using its services, and then agreed to USD 700MM
– Capital and liquidity matter! Always. Forgetting that is abiding sin of those who believe that they are smarter than everyone else
– The explanation for a disruptive event is usually deemed “obvious”- in hindsight
– One needs to have decision-making processes in place ex ante that can manage the rapidity with which your environment can go from “stable” to chaotic. The onset of the pandemic gave a reminder of that

So, while the continuing GameStop saga may seem an amusing diversion for the industry and “happening to other people”, that would be a misguided response.

We wonder when Michael Lewis will write the book, and who will option it to produce the film, following in the footsteps of “The Big Short” or “Rogue Trader”?!

The Awbury Team

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Inflating away…

Ever since the Great Financial Crisis (GFC), economists, investors, central banks and governments have been anxious (for differing reasons) about an increase (or lack thereof) in the rate of high inflation- a scourge which still scars the memories of those born into the Baby Boomer generation.

Yet, with a few exceptions, generally minor in scale or impact, and outside Developed markets, inflation has been remarkably quiescent, which has led to much debate as to why that may be so, and what could cause a change such that inflation starts to rise materially.

Of course, central bank dogma is now that a “little” inflation (usually stated or assumed to be 2% per annum) is a good thing, with most central bankers having been frustrated by their inability to achieve that target on a consistent basis, if at all. By “inflation” they mean some form of price inflation, rather than the two other basic forms affecting asset prices and monetary issuance.

Now there are murmurings that perhaps the return of inflation is nigh. So, the question becomes: “why?”. If central bank actions to date have failed, what may have changed as a result of which the prophecy may come to pass?

For one thing, the amount of money in circulation (often called M2 usually defined as consisting of actual cash, chequing accounts and demand deposits) has been rising rapidly in many economies, as central banks have literally created it as part of government attempts to try to stave off economic depression in the wake of the pandemic.

At the same time, government budget deficits have widened sharply, with levels of sovereign debt rising rapidly to reach levels generally only seen previously in wartime, raising questions about how such obligations will be met in future in the absence of either significant real economic growth and/or rising taxes.

In such circumstances, governments are also terrified of interest rates rising significantly- the classic central bank response to inflation rising beyond the expected or desired level- as this will increase the cost of servicing nominal debt, as well as be likely to curb the economic reflation necessary to promote growth and reduce unemployment.

All these factors present central banks with a dilemma. If a burgeoning money supply and a return to economic growth cause a rise in price inflation above, say, 2%, what are they to do? How far do they allow the trend to continue? What is the level beyond which inflation leads to economic dislocation? If they raise interest rates, do they not only brake and reverse growth, but put an intolerable strain on government budgets because of the increase in debt service costs crowding out other outlays in the absence of significant tax increase, which are politically unfeasible? At what point do they find themselves as the buyers of last resort of government debt in a frantic effort to absorb issuance and suppress interest rates?

If the answers were obvious, everyone would already have worked them out and be applying them. However, the complexity of how all the factors interact, coupled with a lack of any recent inflation-fighting experience within most central banks, simply increases uncertainty. It is easy to say: “inflation must return!” Yet that mantra has been repeated for over a decade with increasing bewilderment. So, we are left with the thought that, on the one hand there clearly are risks to the upside in terms of a rise in price inflation once the global economy has adjusted to the strains caused by the pandemic, but on the other the immediate triggers are unclear- and will probably only become visible in hindsight.

As in everything we do at Awbury, we aim to be aware of and understand all the potential risks to the downside, factor them into our risk analyses, and continue to ensure that we can manage them effectively. Unanticipated and uncontrolled inflation is simply another one.

The Awbury Team

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Going with the Herd…?

In less than a year since the full onset of the pandemic (an astonishingly short period of time), scientists have been able to create not just one but multiple vaccines with high efficacy in protecting an individual against infection by the COVID SARS-2 various.

This is a remarkable achievement; rightly celebrated, and anticipated as the gateway to the return to some resemblance of economic and social normality.

However, it is also important to recognize that the path to “normality” is unlikely to be linear, as there are a number of factors that are both key and still uncertain.

Firstly, because by definition, there is no available history, it remains unclear how long any of the vaccines will provide immunity

Secondly, the pace and scope of vaccination will affect how quickly a particular population (and ultimately Humanity’s 7.9 billion or so individuals) achieves herd immunity- the crucial point beyond which, while the virus may affect particular sub-groups who have not been vaccinated, or do not respond to it as expected, its transmission through the general population is curtailed. At present that is clearly not the case in most countries. To state the obvious, one has to have both a sufficient supply and the ability to administer the vaccine. The former relies upon foresight, money and manufacturing capacity; the latter upon sophisticated logistics, unbroken cold-chains of varying complexity, and mechanism to register and vaccinate individuals using some form of protocol based upon priority of need.

Thirdly, and linked to the second point, the level of the herd immunity threshold (HIT) for the virus- needs to be established, and then achieved- i.e., which percentage of the population has either been infected and survived (and so acquired at least temporary immunity against re-infection) and/or been vaccinated. This is an absolutely critical number. Unfortunately, and not surprisingly, the answer to that question remains unclear. Initial published forecasts of COVID-19’s HIT ranged from 50 to 67%, but the mutation of the virus into more easily transmissible forms means that the percentage could be as high as 80 to 90% (bordering on the same level as measles).

Fourthly, in a networked world, in which people need and wish to travel and interact across borders, the geographic pattern of vaccination will matter. In the absence of clear herd immunity being achieved in, say the US, and likely even then for reasons of public policy and perception, allowing incoming cross-border travel without continuing controls will be unfeasible- thus prolonging the negative economic impact on the global economy. Eradication, or suppression, of a pandemic virus is, therefore, a public good if it is not to become endemic and so continue to disrupt lives and economies.

It also remains to be seen whether or not the Developed World (which should soon have access to adequate supplies of multiple vaccines) will be willing either to share its surplus, or support the purchase of local supplies, for poorer countries. And this ignores the likelihood of logistical challenges to effective levels of vaccination in many Developing World countries.

At Awbury, we are not epidemiologists or biostatisticians. However, we do believe it is, and will remain, essential to understand the interaction and impact of the factors described above if we are to be able to model potential economic and political scenarios over the near and medium term. In reality, while hoping for the best in terms of the HIT of COVID-19 being reached, we must plan for delays and setbacks. To do otherwise, would be irrational. We currently take the view that 2021 is likely to be rather more volatile in macro- and micro-risk terms than many hope for, even if, on the balance of probabilities, the outlook becomes increasingly favourable.

The Awbury Team

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CRO to go…

The role of a Chief Risk Officer (CRO) within a (re)insurance business is critical. That is an axiom. However, it is arguable that the scope of the role requires regulare re-examination, as the range of issues which (re)insurers have to face in managing their businesses and portfolios continues to expand.

To enumerate a few:

  • Continuing pandemic consequences
  • Low interest rate environment and asset price volatility
  • Risk aggregations and correlations
  • Geopolitical shifts
  • Still inflexible cost bases
  • Cyber-risks
  • Climate change- in (re)insurance claims, regulatory and investment terms
  • Legacy systems…
  • One could go on.

In fact, one could argue that the role is a lynchpin, without whose informed input executive management and directors are essentially “flying blind”, and not in a position to judge the continuous risk/reward calculations which any complex business faces in any structured or effective way.

The role of CRO came into greater prominence in the wake of the Great Financial Crisis, and its scope was initially defined in terms of the “Enterprise Risk Management” concept (of which the rating agencies and regulators were and are so fond) as the means to provide necessary control(s) and limit downside risks.

All that, of course, remains important and necessary, but is no longer sufficient. The role has become one that should provide both perspective and guidance on strategic business risks, rather than on “tactical minutiae”, to ensure that financial, reputational and overall organizational health and viability issues are both known and addressed in a timely and proactive manner. In some ways, the CRO has to be able to “play red team” as well as “blue team” in order to be most effective; and is essential to the ability of any (re)insurance business to achieve sustainable and consistent growth, rather than just try to avoid negative outcomes.

To achieve this, an effective CRO will need to have the ability to create, monitor, manage and communicate the output of iterative high-frequency stress tests across a (re)insurer’s entire portfolio and business model, incorporating relevant economic data and scenarios, including leading rather than lagging indicators. This must include both sides of the balance sheet, as well as profitability metrics. Some may argue that this is more the province of a CFO. However, while responsibilities need to be defined in a way that avoids unnecessary duplication, conflict and confusion, a CRO should provide a broader perspective, not one that is more focused on “meeting the numbers”.

As the pandemic has demonstrated the effectiveness of what are distributed workforces, it has also emphasized the need for robust, flexible and layered defences against malfeasance, cyber-attack and fraud. So, CROs will need to design processes that create protections, while at the same time avoiding stifling creativity and productivity. This is no easy task, but fits with the shift from a reactive “compliance” approach to one which promotes growth.

Underlying all these tasks is ensuring that a business’ decision-making and governance frameworks are fit for purpose, tempering speed and agility with consideration of all relevant  factors. If an organization’s risk culture and governance are not appropriate for its environment, the existence of beautifully-designed controls, models and systems is all rather pointless!

So, to sum up, without an experienced and effective CRO, particularly now, a (re)insurer is vulnerable to becoming becalmed and rudderless is a sea of risks, with any “life vests” merely providing a false sense of security.

The Awbury Team

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To catastrophize or not to catastrophize, that is the question…

We hope, dear Reader, that you survived 2020 relatively unscathed, if perhaps a little emotionally-exhausted! To say that the year just passed was one for the record books is an understatement.

Perhaps (re)insurers should choose R.E.M’s “It’s the end of the World”, or Rainer Maria’s “Catastrophe” (opening lines: “All the dams will give at the end, at the end, at the end of the world”) as their ironic theme song? After all, it is human to be fascinated by catastrophes, as long as they do not happen to you, or, as in the case of a NatCAT underwriter, they do not mean that you suffer a claim!

Of course, the word catastrophe itself comes directly from Ancient Greek (καταστροφή); and originally meant simply a sudden turning, or overturning- a reversal in fortune- beginning to acquire its current meaning in English (of some form of disaster) in the Sixteenth Century.

One could argue that its original meaning is equally useful in the sense that, for a NatCAT underwriter, the true catastrophe occurs when his or her underwriting model proves inadequate and its expected parameters are overwhelmed by a truly unforeseen event.

Human beings are, paradoxically, notoriously prone to “catastrophizing”- imagining that an event is, or will be, far worse in terms of its consequences than it is ever likely to be- and such behaviour is often a symptom of anxiety or depression. This begs the question of what exactly should be the temperament of a risk manager charged with avoiding the risk of ruin, particularly in the midst of a global pandemic!

As is often the case, we would argue that a rational, middle way is required. Following the approach of Dr. Pangloss in Voltaire’s satire Candide (that all is for the best in this best of all possible worlds) is irrational and very likely to lead swiftly to ruin; yet the reverse outlook based upon emotion is equally foolish. Instead, one should balance the need to rely upon often complex models, and to accept that they are only an approximation of “reality”, with the understanding of what the potential boundaries are of the risk being analyzed and assessed. Even catastrophes usually have limits, and, if they do not should one even be accepting them into a portfolio? After all, not only the pandemic, but numerous other events have shown that catastrophes happen much more frequently than we are often prepared to accept.

Consider, for example, the recent SolarWinds hack, almost certainly an example of state-sponsored action. If such an act can penetrate even supposedly “hardened” and sophisticated defences, where can a cyber-risk underwriter drawn the line in terms of coverage if no-one is truly safe? In such circumstances, imagining “beyond the worst” is actually rational, as the boundaries have shifted yet again in terms of reach and scale. At what point does the supposedly insurable become uninsurable?

At Awbury, we are strong believers in avoiding catastrophizing, while recognizing that we cannot foresee all eventualities. So, we focus on ensuring that the risks we underwrite and accept are truly bounded; with a highly remote, and carefully mitigated, probability of ever exceeding our models’ parameters.

We most certainly do not wish a catastrophe to turn into a tragedy!

The Awbury Team

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