Newark, Calif. -- Risk Management Solutions (RMS) recently performed a number of analyses for the Congressional Budget Office (CBO) to assess the absolute risk of terrorism and quantify how the terms of the December 2005 renewal of the Terrorism Risk Insurance Act (TRIA) would shift the relative share of the risk from the government to the insurance industry.RMS analysis shows that while TRIA provides solvency protection in extreme events, it is not an insurance industry subsidy. Based on the new TRIA terms, over 90% of the RMS modeled average annual loss would be retained by the industry. If an attack occurred, there is also less than a 10% chance that it would cause the industry deductible to be reached, since only the most extreme, low-probability attacks will cause losses in excess of $30 billion. For example, the 2001 World Trade Center attacks resulted in approximately $32.5 billion of insured losses. Were an event of this magnitude to occur today, it would thus produce only a minimal TRIA recovery for the insurance industry.
While the act was extended for two years, in 2007 insurers' deductibles will increase from 17.5% of direct earned premium (DEP) to 20% of DEP, and the government quota share on losses above the retention shrinks from 90% to 85%. This will lead to another significant increase in the amount of terrorism risk held by the industry, highlighting the need for insurers to focus on terrorism risk management.
"Since the introduction of TRIA in 2002, risk management practices have advanced significantly, and virtually all of our clients with a material amount of terrorism exposure are actively managing their risk in an increasingly sophisticated and broad manner," says Peter Ulrich, senior vice president of enterprise risk management at RMS. "Several years ago, companies focused on exposure accumulation and scenario modeling, but now they are using probabilistic modeling to help inform decisions on underwriting guidelines, risk selection, reinsurance transactions, and the possible securitization of terrorism risk."
The TRIA extension provides a two-year window to allow the industry to determine how best to prepare for or disengage from providing terrorism risk coverage. Determining the value of continued provision of terrorism coverage will therefore demand a comprehensive assessment of risk, available capital, pricing, and their ability to withstand extreme losses.
"Near-term terrorism risk in the U.S. has decreased since the initial TRIA bill, mainly due to homeland counter-terrorism measures, but the Jihadist threat continues to rise worldwide," says Dr. Andrew Coburn, director of terrorism research at RMS. "Anti-American terrorist attacks have increased worldwide, and the U.S. homeland remains a primary target for Jihadist terror groups. Our assessment suggests that the threat of macro-attacks within the U.S. will remain for many years. More troubling is that the capability of threat groups to carry out larger scale attacks is increasing over time."
At the end of 2007, individual insurance and reinsurance companies could face the challenge of bearing the risk of terrorism losses with no government backstop. Managing this risk, therefore, will require that companies ensure that they have sound underwriting practices and accumulation controls, good analytical tools, and discipline throughout the organization.
RMS has participated throughout the TRIA debate, including through its co-founding of the RAND Center for Terrorism Risk Management Policy and its August 2005 publication of A Risk-Based Rationale for the Extension of the Terrorism Risk Insurance Act, available from www.rms.com.
Source: Risk Management Solutions
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