Capital Considerations of Insurers with Capital Considerations of Insurers with Catastrophe ExposureCatastrophe Exposure

October 22, 1998October 22, 1998

Jeanne H. DunleavyJeanne H. DunleavySenior Vice PresidentSenior Vice PresidentRisk ManagementRisk Management

22

CatastrophesCatastrophes

Natural DisastersNatural Disasters

Y2KY2K

Tobacco LiabilityTobacco Liability

Asbestos & EnvironmentalAsbestos & Environmental

Man-made CatastrophesMan-made Catastrophes

33

Discussion OutlineDiscussion Outline

Best’s Rating PhilosophyBest’s Rating Philosophy

Catastrophe Exposure Trends Catastrophe Exposure Trends

Financial & Strategic EvaluationFinancial & Strategic Evaluation

Catastrophe Management StrategiesCatastrophe Management Strategies

44

A.M. Best’s Rating Evaluation —A.M. Best’s Rating Evaluation —Key ComponentsKey Components

Financial Financial StrengthStrength

Operating Operating PerformancePerformance

Market Market ProfileProfile

Best’s RatingBest’s Rating

55

Best’s Rating Philosophy —Best’s Rating Philosophy —Catastrophe RiskCatastrophe Risk

Extensive PML analysisExtensive PML analysis

Cat modeling standardization issuesCat modeling standardization issues

SecureSecure insurers must survive insurers must survive reasonable reasonable PMLsPMLs

Gross PML leverageGross PML leverage < 100% for < 100% for superiorsuperior insurers insurers

Concern over opportunistic players in cat-prone areasConcern over opportunistic players in cat-prone areas

66

Compiling Information — Compiling Information — Best’s Supplemental Rating QuestionnaireBest’s Supplemental Rating Questionnaire

Gross & net PMLGross & net PML 50-, 100-, 250- & 500-year return periods50-, 100-, 250- & 500-year return periods

Catastrophe modelsCatastrophe models Modeler & versionModeler & version Key assumptionsKey assumptions

Liquidity profileLiquidity profile

Historical experienceHistorical experience

77

Gross Catastrophe Leverage By SeverityGross Catastrophe Leverage By Severity

Total Sample (60)

36% 35%

47%

26%

50%

15%

0%

10%

20%

30%

40%

50%

60%

0-30% (Moderate) 75+ (Excessive)

1994 1995 1996

(Gross PML/Surplus%)Source: A.M. Best Co.Source: A.M. Best Co.

88

Net Catastrophe Leverage By SeverityNet Catastrophe Leverage By Severity

Total Sample (60)

55%

22%

69%

5%

74%

2%0%

10%

20%

30%

40%

50%

60%

70%

80%

0-15% (Moderate) 46%+ (Excessive)

1994 1995 1996

(Net PML/Surplus %)Source: A.M. Best Co.Source: A.M. Best Co.

99

Catastrophe Reinsurance DependenceCatastrophe Reinsurance Dependence

Total Sample (60)

25%

16%

65%

20%

66%

19%

0%

10%

20%

30%

40%

50%

60%

70%

0-30% (Moderate) 91%+ (Excessive)

1994 1995 1996 (Ceded PML/Gross PML %)

Source: A.M. Best Co.Source: A.M. Best Co.

1010

A.M. Best’s Financial Evaluation — A.M. Best’s Financial Evaluation — Catastrophe RiskCatastrophe Risk

CapitalizationCapitalization

LiquidityLiquidity

ProfitabilityProfitability

Financial FlexibilityFinancial Flexibility

1111

Cat Risk Financial Evaluation — Cat Risk Financial Evaluation — CapitalizationCapitalization

Best’s Capital Adequacy Model (BCAR) Best’s Capital Adequacy Model (BCAR) Net after tax PML - higher of:Net after tax PML - higher of:

Hurricane 100-year return periodHurricane 100-year return period Earthquake 250-year return periodEarthquake 250-year return period

1212

Cat Risk Financial Evaluation — LiquidityCat Risk Financial Evaluation — Liquidity

Liquid assetsLiquid assets

Liquidity stress testLiquidity stress test Pro forma 120 basis point rise in Pro forma 120 basis point rise in

interest rates interest rates Bond securities with unrealized lossesBond securities with unrealized losses

1313

Cat Risk Financial Evaluation — Cat Risk Financial Evaluation — ProfitabilityProfitability

Earnings volatility/earnings dragEarnings volatility/earnings drag Frequency as well as severityFrequency as well as severity Costly reinsurance coverageCostly reinsurance coverage

1414

Cat Risk Financial Evaluation —FlexibilityCat Risk Financial Evaluation —Flexibility

Reinsurance utilizationReinsurance utilization

Access to capital marketsAccess to capital markets

Debt capacityDebt capacity

Parental resourcesParental resources

1515

Catastrophe Risk — Financial EvaluationCatastrophe Risk — Financial Evaluation

Earnings Volatility & DragEarnings Volatility & DragProfitabilityProfitability

Liquid Asset ProfileLiquid Asset ProfileCash Flow Stress TestCash Flow Stress Test

LiquidityLiquidity

Sensitivity AnalysisSensitivity AnalysisGross & Net PML LeverageGross & Net PML Leverage

CapitalizationCapitalization

Access to CapitalAccess to CapitalReinsurance UsageReinsurance UsageDebt CapacityDebt CapacityParental SupportParental Support

Financial Financial FlexibilityFlexibility

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Catastrophe Risk — Strategic EvaluationCatastrophe Risk — Strategic Evaluation

Reinsure/Risk FinancingReinsure/Risk FinancingRegulatory ConstraintsRegulatory Constraints

Exposure CapsExposure CapsExposure EliminationExposure EliminationLoss MitigationLoss Mitigation

StrategiesStrategies

Cash FlowCash FlowInvestor ViewInvestor ViewBest’s RatingBest’s Rating

Risk AppetiteRisk AppetiteSurplus / SolvencySurplus / SolvencyEarnings VolatilityEarnings Volatility

Risk RetentionRisk Retention

Corrective TimelinesCorrective TimelinesStrategic FitStrategic FitGoals & ObjectivesGoals & Objectives

Parental Parental CommitmentCommitment

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Emerging Catastrophe Management Emerging Catastrophe Management StrategiesStrategies

Risk retention/containmentRisk retention/containment

Risk mitigationRisk mitigation

Risk transferRisk transfer

Risk financingRisk financing

1818

Risk Containment — Example: AllstateRisk Containment — Example: Allstate

Create separately capitalized Florida Create separately capitalized Florida

subsidiary to segregate exposures and subsidiary to segregate exposures and

demonstrate need for increased ratesdemonstrate need for increased rates

SolutionSolution

Excessive Florida cat exposureExcessive Florida cat exposureIssuesIssues

Difficult regulatory environmentDifficult regulatory environment

1919

SolutionsSolutions

IssuesIssues

Risk Mitigation — Examples: Nationwide, Risk Mitigation — Examples: Nationwide, Farmers, State FarmFarmers, State Farm

Increased cat lossesIncreased cat lossesNationwideNationwide

Tighten U/W criteriaTighten U/W criteriaPrem discounts for enforced bldg codesPrem discounts for enforced bldg codes

State FarmState Farm

Substantial CA EQ exposureSubstantial CA EQ exposureLinking CA law for HO & EQLinking CA law for HO & EQ

FarmersFarmers

Limited/non-renewal businessLimited/non-renewal businessNationwideNationwide

Implemented new mini-policy pre-CEAImplemented new mini-policy pre-CEAFarmersFarmers

Promote rating bldg codes’ effectivenessPromote rating bldg codes’ effectivenessState FarmState Farm

2020

Risk Mitigation — Example: FarmersRisk Mitigation — Example: Farmers

IssuesIssues

Substantial CA EQ exposureSubstantial CA EQ exposureLinking CA law for HO & EQLinking CA law for HO & EQ

FarmersFarmers

SolutionsSolutions

Implemented new mini-policy pre-CEAImplemented new mini-policy pre-CEAFarmersFarmers

2121

Risk Transfer — Example: USAARisk Transfer — Example: USAA

High cost of reinsuranceHigh cost of reinsuranceIssuesIssues

Access to capital markets/add. capitalAccess to capital markets/add. capital

SolutionsSolutions Non-affiliated, special purpose reinsurerNon-affiliated, special purpose reinsurer

Issued reinsurance contract/cat-linked Issued reinsurance contract/cat-linked

bonds tied to East Coast hurricane losses bonds tied to East Coast hurricane losses

($500 mil XS $1 bil layer)($500 mil XS $1 bil layer)

2222

Risk Transfer — Example: RLI/Centre Re - Risk Transfer — Example: RLI/Centre Re - Contingent EquityContingent Equity

IssuesIssues Large commercial property cat exposureLarge commercial property cat exposure

Augment traditional program with cost-Augment traditional program with cost-effective alternativeeffective alternative

Access capacity in capital markets & Access capacity in capital markets & avoid market risk of issuing securities avoid market risk of issuing securities after major eventafter major event

SolutionsSolutions Catastrophe Put OptionCatastrophe Put Option

Pre-negotiated sale of $50 mil convertible Pre-negotiated sale of $50 mil convertible preferred securities to Centre Re if losses preferred securities to Centre Re if losses exceed RLI’s cat reinsurance protectionexceed RLI’s cat reinsurance protection

2323

Cat Management Strategies —Cat Management Strategies — Non-Traditional Non-Traditional

RLI/Centre ReRLI/Centre ReCatastrophe equity putsCatastrophe equity putsEquityEquity

USAA, Swiss ReUSAA, Swiss ReWinterthurWinterthur

Catastrophe linked bondsCatastrophe linked bondsReinsuranceReinsurance

TravelersTravelersCatastrophe optionsCatastrophe optionsInvestmentInvestment

Arkwright, NationwideArkwright, NationwideContingent surplus notesContingent surplus notesDebtDebt

Standby line of creditStandby line of credit Nationwide, State Nationwide, State Farm, Florida JUAFarm, Florida JUA

2424

SummarySummary

Elevated lossesElevated losses

Catastrophe modelsCatastrophe models

Favorable trendsFavorable trends

Best’s RatingsBest’s Ratings

2525

Effectively managing catastrophe risk is one of the Effectively managing catastrophe risk is one of the major challenges for insurance companiesmajor challenges for insurance companies

E.W. Blanch plays a vital role in providing sound E.W. Blanch plays a vital role in providing sound advice and innovative risk transfer and risk advice and innovative risk transfer and risk

financing productsfinancing products

A.M. Best is focused on preventing A.M. Best is focused on preventing and detecting insurer insolvencyand detecting insurer insolvency

2626

Using Technology Using Technology As A Pricing Tool As A Pricing Tool To Understand Layering, Loss Costs, and To Understand Layering, Loss Costs, and

ProbabilitiesProbabilities To Create Practical SolutionsTo Create Practical Solutions Integrate with Overall Financial PerformanceIntegrate with Overall Financial Performance

Catastrophe Risk ManagementCatastrophe Risk Management

2727

E. W. Blanch E. W. Blanch CompanyCompany

Overview of Overview of E.W. Blanch holdings, IncE.W. Blanch holdings, Inc..

2929

E.W. Blanch Mission StatementE.W. Blanch Mission Statement

To make an identifiable and measurable To make an identifiable and measurable contribution to the success of our clients contribution to the success of our clients

through innovative concepts and through innovative concepts and unparalleled service.unparalleled service.

3030

How We Deliver SolutionsHow We Deliver Solutions

Post-lossMitigationServices

Primary Servcices

Risk TransferServices

Swire Blanch(International)

EWB Co.(N. America)

EWB Holdings, Inc.

Analytical Services

Relationship Executives -Linda Johnson

Scott Fest

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REVENUES:REVENUES: $167M (53% Increase From 1996)$167M (53% Increase From 1996)

GROWTH:GROWTH: Over 25% Compounded (Last 5 Years)Over 25% Compounded (Last 5 Years)

EPS:EPS: $2.03$2.03

ASSETS:ASSETS: $920M$920M

OWNERSHIP:OWNERSHIP: Publicly owned (NYSE = EWB)Publicly owned (NYSE = EWB)Approximately 25% Employee OwnershipApproximately 25% Employee Ownership

MARKETMARKETCAPITALIZATION:CAPITALIZATION: $446M$446M

EWB Holdings Financial Highlights: As of EWB Holdings Financial Highlights: As of 12/9712/97

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Global NetworkGlobal Network

Over 1,100 employees worldwideOver 1,100 employees worldwide

CHICAGO

MINNEAPOLIS

SAN FRANCISCO

LOS ANGELES

DALLAS

SAN ANTONIO

PHILADELPHIA

WILMINGTON

ATLANTA

NEW YORK HUDDERSFIELD

HANOI

SYDNEY

SINGAPORE

HO CHI MINH CITY

SHANGHAI

BEIJING

COPENHAGEN

LONDON

HONG KONG

MIAMI

SARASOTA

MEXICO CITY

BUENOS AIRES

DENVER

CINCINNATI

BOSTON

HOBOKEN

Primary Distribution

Swire Blanch

E. W. Blanch Co.

ASUNCION

RIO de JANIERO

3333

$64.6$80.7

$94.9$109.0

$167.0

$0$20$40$60$80

$100$120$140$160$180$200

1993 1994 1995 1996 1997

Historical RevenuesHistorical Revenues

3434

Sample Client ListSample Client List

Business Solutions:Business Solutions:Fireman’s Fund Insurance CompanyFireman’s Fund Insurance CompanyOrion Capital CompaniesOrion Capital CompaniesWausau Insurance CompaniesWausau Insurance Companies

Governmental:Governmental:California Earthquake Authority (CEA)California Earthquake Authority (CEA)Florida Hurricane Catastrophe Fund (FHCF)Florida Hurricane Catastrophe Fund (FHCF)Florida Windstorm Underwriting Association Florida Windstorm Underwriting Association (FWUA)(FWUA)Illinois Department of Insurance (Pine Top)Illinois Department of Insurance (Pine Top)Texas Wind PoolTexas Wind Pool

Insurers / ReinsurersInsurers / Reinsurers

Acceptance Insurance CompanyAcceptance Insurance Company

Allstate Insurance GroupAllstate Insurance Group

Alfa Insurance Corp.Alfa Insurance Corp.

Amica Mutual InsuranceAmica Mutual Insurance

CIGNA Insurance CompanyCIGNA Insurance Company

CNA GroupCNA Group

Frontier Insurance CompanyFrontier Insurance Company

Guidant Insurance GroupGuidant Insurance Group

Liberty Mutual Insurance CompanyLiberty Mutual Insurance Company

Orion InsuranceOrion Insurance

Reliance Insurance CompanyReliance Insurance Company

Renaissance Reinsurance, Ltd.Renaissance Reinsurance, Ltd.

St. Paul Cos.St. Paul Cos.

State Farm Insurance CompanyState Farm Insurance Company

W. R. Berkley CorporationW. R. Berkley Corporation

Catastrophe Management:Catastrophe Management:American Family Mutual Insurance Co.American Family Mutual Insurance Co.Gryphon Insurance GroupGryphon Insurance GroupHartford Insurance CompanyHartford Insurance Company

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BusinessBusinessSolutionsSolutions

ReinsuranceReinsuranceDistributionDistribution

CustomerCustomer

InsuranceInsuranceServicesServices

RiskRiskManagementManagement

What Specific Services Are AvailableWhat Specific Services Are Available