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Insurance/ReinsuranceJune2012NAT CAT REMINDER TO MARKETThis article first appeared in Insurance Day on 28 June 2012 and is reproducedwith their kind permission. www.insuranceday.com2011 saw an unprecedented sequence ofnatural catastrophes, including the Christchurchearthquake, the Japanese earthquake andtsunami and the floods in Thailand. In additionto the devastating loss of life and the impacton local communities, these events have alsohad a significant impact on the global insuranceindustry. This article will look at the financialimpact of these events and consider what lastingeffects they may have on the industry in thelonger term.Total economic losses from these events arecurrently estimated at more than US$370 billion,with insured losses of approximately US$110billion. The financial impact on the globalindustry has been significant, as reflected by the£516 million loss recently reported by Lloyds ofLondon for 2011, which was largely attributedto record catastrophe claims of £4.6 billion.Despite this, the share prices of a number ofLloyds businesses and European insurers havecontinued to do well in 2012, perhaps in thehope that catastrophe losses this year will besignificantly lower and in the expectation thatproperty and casualty rates will rise as insurersand reinsurers look to replenish lost capital fromprevious years.That hope and expectation appears to havebeen borne out so far this year, with catastrophelosses to the end of May 2012 estimated to be inthe region of US$6 billion, compared to US$75billion for the same period in 2011. It has alsobeen reported by some insurers that rates areup by 2-3% so far this year with reinsurancepremiums up as much as 5-10% and furtherincreases expected. This compares with rates inthe United States where catastrophe exposedrates have generally increased by around 10%,with higher rate increases in Japan and NewZealand of 30% and Australia of between 10-20%.In addition to the financial impact, there mayalso be a number of lasting effects on the marketgenerally, especially in those regions or countrieswhich are now perceived to be potentially moreexposed to natural disasters, which some havelabelled “nat cat zones”. For example, some


insurers may be unwilling to writebusiness in those regions or countries,resulting in a lack of capacity andpotentially higher rates for businesseslooking for cover. Others may seek tolimit their potential exposure to naturalcatastrophe risks by pulling out ofcertain lines of business altogether orreducing limits.One line of business that may beparticularly susceptible to a change inunderwriting approach is contingentbusiness interruption (CBI) insurance.Whilst CBI cover has formed part ofIndustrial Special Risk and All RiskInsurance policies for some timenow, the recent events, especially inJapan and Thailand, have broughtthe importance of this cover sharplyinto focus and highlighted thevulnerability of production processesto interruptions to the global supplychain and the potential losses that canresult.The purpose of CBI cover is tomitigate financial risks associatedwith events that affect the customersor suppliers of an insured business. Itis typically an extension of businessinterruption insurance, but instead ofproviding cover for a loss of revenuearising from damage to the propertyof the insured, CBI cover extends thatcoverage to the insured’s businessinterruption, which necessarily arisesfrom damage to the premises of acustomer or supplier of the insured.How far that coverage extends up thesupply chain or down the customerchain will depend on the specificwording of the clauses.In light of the events in Japan andThailand in particular, insurers andreinsurers may in future seek toclarify or limit their CBI exposure bydefining the category of customeror supplier that the insurance isintended to cover. This might be done,for example, by limiting the coverto “named” customers or suppliersonly. In circumstances where it is notpractically possible to name eachand every existing or future supplieror customer, insurers may insteadseek to limit cover to those customersand suppliers “with a contractualrelationship with the insured”, “direct”customers or suppliers, or to specificand defined “tiers” of customers orsuppliers. Insurers seeking to limittheir exposure in this way will need toconsider the specific wording of theextension clauses and avoid termswhich could potentially broadencoverage such as “indirect”, or byreferring to a “customer” or “supplier”without any further definition.It is likely that in future there will bea greater emphasis on the technicalunderwriting of CBI risks, withinsurers and reinsurers demandinga greater level of transparencyregarding the potential supply chainrisks to the insured’s business.Typically, this might include a full andcomplete business impact analysisto identify the risks posed to theinsured’s customers and suppliers,quantification of the potential financialeffect of an interruption to thosecustomers or suppliers, considerationof other potentially applicableextensions, such as denial of accessand the precise terms of thoseclauses, details of the geographicallocations of the insured’s groupbusinesses and consideration of anyinterdependency issues, as well as adetailed assessment of the insured’sbusiness continuity plan in theevent of an interruption to one of itssuppliers or customers.In addition to the practical stepsreferred to above, there may alsobe other efforts by insurers andreinsurers to tighten the language intheir policies and/or to expressly limitthe scope of coverage. This mightinclude anti-stacking language toprevent the insured from stackingpotentially applicable sub-limits andto prevent the potential argument thatthe applicable CBI sublimit should bestacked on top of the overall businessinterruption limit. Other amendmentsto a policy wording might includea reduction in the policy sub-limits,limiting the range of perils to whichthe policy responds and as referredto above, the imposition of expresslanguage limiting the CBI exposureto a known category of customer orsupplier.The huge losses resulting from thenatural catastrophes in 2011 serveas a reminder to both insureds andinsurers of the importance of fullyevaluating their potential exposureto natural catastrophes and ensuringtheir policy language is sufficientlyclear and concise so insureds knowthe cover meets their business needsand insurers can determine precisely“One line of business that may beparticularly susceptible to a change inunderwriting approach is contingentbusiness interruption (CBI) insurance.”02 Insurance/Reinsurance


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