A Note to the User of This File


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A Note to the User of This File

  1. 1. A Note to the User of This File Visit http://facpub.stjohns.edu/~kwonw/Blackwell.html to check updates for this chapter. This file as well as all other Power Point files for the book, “ Risk Management and Insurance: Perspectives in a Global Economy ” authored by Skipper and Kwon and published by Blackwell (2007), has been created solely for classes where the book is used as a text. Use or reproduction of the file by any means, known or to be known, is prohibited without prior written permission by the authors who can be contacted at [email_address] .
  2. 2. All the slides in this file are done with a single master slide format. To change the background, style or both Click the drop-down folders of the program: [View]  [Master]  [Slide/Handout Master] Once you close the pop-up menu, all slides will change automatically. Of course, you may change a single slide manually.
  3. 3. Risk Management and Insurance: Perspectives in a Global Economy 15. Risk Management for Catastrophes Click Here to Add Professor and Course Information
  4. 4. Points to Ponder <ul><li>Risk analysis </li></ul><ul><li>Risk control </li></ul><ul><li>Risk financing </li></ul>
  5. 5. Risk Analysis
  6. 6. Risk Analysis <ul><li>The analysis for events that hold a catastrophic potential are largely identical to those for non-catastrophic event, except: </li></ul><ul><ul><li>Risk managers devote greater time and effort to exploring the susceptibility of the firm’s physical structure to damage. </li></ul></ul><ul><ul><li>Such corporations commonly rely more heavily on modeling to estimate the probable effects of natural catastrophes on their businesses. </li></ul></ul><ul><ul><li>Scenario planning can play a significant role. </li></ul></ul>
  7. 7. Susceptibility to Damage <ul><li>Design features and construction quality </li></ul><ul><ul><li>The tradeoff between cost and quality </li></ul></ul><ul><ul><li>Causes of damage </li></ul></ul><ul><ul><ul><li>Natural </li></ul></ul></ul><ul><ul><ul><li>Human-made (e.g., terrorists or disgruntled employees) </li></ul></ul></ul><ul><li>Age of structures </li></ul><ul><ul><li>The Great Hanshin (Kobe) Earthquake in Japan in 1995 </li></ul></ul><ul><li>Infrastructure </li></ul><ul><ul><li>Transportation and communication facilities of the affected area </li></ul></ul><ul><ul><li>Critical to a prompt and orderly recovery </li></ul></ul><ul><ul><li>Hurricane Katrina in New Orleans in 2005 in the U.S. </li></ul></ul>
  8. 8. Catastrophe Modeling <ul><li>The use of computer-assisted mathematical techniques to estimate possible losses associated with catastrophic events </li></ul><ul><ul><li>Use of site and specific property characteristics (the so-called “exposure data”) </li></ul></ul><ul><li>Primarily for natural catastrophes such as hurricanes, earthquakes, storms, floods </li></ul><ul><ul><li>Some for terrorism (e.g., AIR modeling ) </li></ul></ul><ul><li>Widely used by insurers, reinsurers and intermediaries </li></ul><ul><ul><li>Figure 15.1 for a natural catastrophe model </li></ul></ul>
  9. 9. Natural Catastrophe Risk Modeling (Figure 15.1) Description of the model in pages 376-377.
  10. 10. Scenario Planning <ul><li>A strategic planning method in which analysts generate simulation games that are used by management to consider and develop plans to deal with alternative futures </li></ul><ul><li>Scenarios should bring forth decisions by those who are ultimately responsible for making them. </li></ul><ul><ul><li>Subsumes elements that are difficult and often impossible to formalize, let alone quantify </li></ul></ul><ul><li>It is intended to cause decision-makers to realize that they consciously or unconsciously likely have a preconceived notion of what the “official future” will hold. </li></ul><ul><ul><li>Insight 15.1 </li></ul></ul><ul><ul><li>Figure 15.2 </li></ul></ul>
  11. 11. Closed Strategic Management Loop Construct Multiple Scenarios Devise Strategic Plan Based on Scenarios Implement Strategies Monitor the Environment and Strategic Implementation
  12. 12. Terrorism Risk Analysis <ul><li>Protection priority </li></ul><ul><ul><li>High priority </li></ul></ul><ul><ul><li>Medium priority </li></ul></ul><ul><ul><li>Low priority </li></ul></ul><ul><li>Hazard and vulnerability assessment </li></ul><ul><ul><li>Defining threats </li></ul></ul><ul><ul><li>Identifying likely threat event profile and tactics </li></ul></ul><ul><ul><li>Assignment of a threat rating </li></ul></ul>Go also to FEMA for additional information.
  13. 13. Risk Control
  14. 14. Loss Prevention <ul><li>Land use restrictions </li></ul><ul><li>Building codes </li></ul><ul><li>Disaster planning </li></ul><ul><ul><li>The U.S. – A Failure of Initiative , a report about government preparedness against disasters – Hurricane Katrina and New Orleans </li></ul></ul><ul><ul><ul><li>Insight 15.3 (Home Depot’s reactions to the hurricane) </li></ul></ul></ul><ul><ul><li>The E.U. – The Environmental Integration Manual </li></ul></ul>
  15. 15. Loss Reduction <ul><li>Crisis management </li></ul><ul><ul><li>The process of identifying those situations that constitute a crisis, having an organized response to the crisis and ultimately resolving the crisis </li></ul></ul><ul><li>The process </li></ul><ul><ul><li>Engage appropriate employees to consider the range of crises </li></ul></ul><ul><ul><li>Develop responses for each identified crisis, including a master plan </li></ul></ul><ul><ul><li>Assign clear recovery responsibilities to individuals </li></ul></ul><ul><ul><li>Speak with one voice and through one high-level person </li></ul></ul><ul><ul><li>Keep employees, customers, other stakeholders and the public well informed by honestly and openly sharing the nature of the difficulty and what the organization is doing about it </li></ul></ul>
  16. 16. Loss Reduction <ul><li>The importance of effective crisis management – “sustainable risk management” </li></ul><ul><li>Corporate catastrophes and shareholder value </li></ul><ul><li>Reputation crises and shareholder value </li></ul><ul><li>Mass fatality events and shareholder value </li></ul>Discussion based on Knight and Pretty’s works
  17. 17. Loss Reduction <ul><li>Insight 15.4 (Tylenol case) </li></ul><ul><li>Insight 15.5 (Boycott) </li></ul><ul><li>Insight 15.6 (Reputation loss) </li></ul><ul><li>Figure 15.4 (Reaction of Share Prices to Mass Fatality Events) </li></ul>
  18. 18. Share Price and Reputation Crisis (Figure 15.3)
  19. 19. Share Price and Mass Fatality Event (Figure 15.4)
  20. 20. Risk Financing
  21. 21. Retention <ul><li>Recommended when </li></ul><ul><ul><li>Insurance is unavailable or unaffordable </li></ul></ul><ul><ul><li>Property owners have the capability of financing losses internally </li></ul></ul><ul><li>Retention is often used along with other risk financing options. </li></ul><ul><ul><li>For example, excess insurance on top of large retention </li></ul></ul><ul><li>The problems with retention are vividly demonstrated when a catastrophe occurs. </li></ul><ul><ul><li>Especially in developing countries </li></ul></ul>
  22. 22. Insurance <ul><li>Risk financing capacity for catastrophic loss exposures remains a major concern for the insurance industry internationally </li></ul><ul><li>Insurance policies often exclude coverage for many catastrophic events. </li></ul><ul><ul><li>Nuclear-related events </li></ul></ul><ul><ul><li>Flood damages </li></ul></ul><ul><ul><li>Earth movement </li></ul></ul><ul><ul><li>Terrorist act </li></ul></ul><ul><ul><li>Countrywide variations exist. </li></ul></ul>
  23. 23. Insurance – Catastrophe Reinsurance <ul><li>Often a risk-financing and loss-sharing arrangement between insurance firms </li></ul><ul><li>Several reinsurers that specialize in catastrophe reinsurance </li></ul><ul><ul><li>The Caribbean </li></ul></ul><ul><ul><li>The London market </li></ul></ul>
  24. 24. Insurance – Private Risk Pools <ul><li>A wide array of uses by insurance companies </li></ul><ul><ul><li>Residual markets for nonstandard drivers in automobile insurance or employers in workers’ compensation </li></ul></ul><ul><li>A case of catastrophic loss exposure – nuclear activity </li></ul><ul><ul><li>The World Nuclear Association </li></ul></ul><ul><ul><li>OECD’s Paris Convention on Third Party Liability in the Field </li></ul></ul><ul><ul><li>of Nuclear Energy of 1960 (amended in 2004) </li></ul></ul><ul><ul><li>The Price-Anderson Act in 1957 (U.S.) </li></ul></ul><ul><ul><ul><li>Insight 15.7 </li></ul></ul></ul>
  25. 25. Nuclear Insurance Coverage (Insight 15.7) <ul><li>Facility form (liability) policy </li></ul><ul><li>Secondary financial protection policy </li></ul><ul><li>Master worker policy </li></ul><ul><li>Suppliers and transporters policy </li></ul>
  26. 26. Insurance – Government Risk Pools (CEA) Source: CEA (www.earthquakeauthority.com) $1.0 $3.0 $2.0 $1.0 $1.5 $2.0 Assessment against insurers Reinsurance Line of credit Reinsurance Additional commitments from insurers Insurers' Initial Capital Contributions
  27. 27. Insurance – Terrorism Risk <ul><li>Australia – Australian Reinsurance Pool </li></ul><ul><li>Austria – Terrorpool Austria </li></ul><ul><li>France – GAREAT </li></ul><ul><li>Germany – Extremus </li></ul><ul><li>Israel – The Property and Tax Compensation Fund </li></ul><ul><li>The Netherlands – NHT </li></ul><ul><li>Spain – CCS </li></ul><ul><li>South Africa – SASRIA </li></ul><ul><li>The U.K. – Pool Re </li></ul><ul><li>The U.S. – Terrorism Risk and Insurance Act </li></ul>Table 15.1
  28. 28. Catastrophe Risk Securitization – Cat Bonds Institutional Investors Catastrophe Risk Not in the Book! SPV (Reinsurer + Bond Issuer) Premium Coverage Investment Principal + Return Insurer (Reinsurer) Premium Coverage Investment Bank (Bond Underwriting + Rating) Escrow Account (Bond Investment)
  29. 29. Discussion Questions
  30. 30. Discussion Question 1 <ul><li>Older facilities often are more susceptible to damage than newer ones. Explain why this is so and make a case for why the government should not require that the owners of such older facilities to upgrade them to contemporary structural standards? </li></ul>
  31. 31. Discussion Question 2 <ul><li>Loss mitigation is a fundamental factor in better managing the physical environment risk. What aspects of loss mitigation do you believe offer the most promise for the future? </li></ul>
  32. 32. Discussion Question 3 <ul><li>Develop at least two “alternative futures” for how risk management might change for operators of nuclear power plants. </li></ul>
  33. 33. Discussion Question 4 <ul><li>If sound crisis management is as important as suggested in this chapter, why do major corporations seem to accord it so little attention? </li></ul>
  34. 34. Discussion Question 5 <ul><li>We have described terrorism risk pools in selected countries. </li></ul><ul><ul><li>Find the reasons why some governments listed in the table acted upon creation of a terrorism insurance scheme before September 11, 2001. </li></ul></ul><ul><ul><li>Do you find any other governments offering similar programs? (Hint: Examine Brazil, Finland, Hong Kong and Japan for possible programs.) </li></ul></ul>