Whenever the U.K. is hit by major flooding, attention quickly turns to the performance of the nation’s flood defenses. Some defenses, such as London’s Thames Barrier, are regularly recognized for their vital role in protecting people and property. The value of other mitigation measures, however, has been frequently challenged, such as when defenses failed to prevent significant flooding in Cumbria during storm Desmond in 2015.
Catastrophe models, conceived in the 1970s and created at the end of the 1980s, have proved to be a “disruptive technology” in reshaping the catastrophe insurance and reinsurance sectors. The first wave of disruption saw the arrival of fresh capital, to found eight new “technical” Bermudan catastrophe reinsurers. The “Class of 1993” included Centre Cat Ltd., Global Capital Re, IPC Re, LaSalle Re, Mid-Ocean Re, Partner Re, Renaissance Re and Tempest Re. Using catastrophe models, these companies were able to set up shop and price hurricane and earthquake contracts without having decades of their own claims history. While only two of these companies survive as independent reinsurers, the legacy of the disruption of 1993 is Bermuda’s sustained dominance in global reinsurance.
A second wave of disruption starting in the mid-1990s saw the introduction of catastrophe bonds: a slow trickle at first but now a steady flow of new structures, as investors who knew nothing about catastrophic loss came to trust modeled risk estimates to establish the bond interest rates and default probabilities. Catastrophe bonds have subsequently undergone their own “Cambrian explosion” into a diverse set of insurance-linked securities (ILS) structures, including those in which the funds go back to supplement reinsurer’s capital. Again, this disruption in accessing novel sources of pension and investment fund capital would have been impossible without catastrophe loss models.