Cyber Risk in Reinsurance
April 3, 2025
The global business environment has turned increasingly digital in the pasts few years. It is very common for businesses across the world to conduct most of their business online. This includes transacting with customers, employees, suppliers, and even the government. It is for this reason that the role of computers has drastically increased within the…
Catastrophe modeling used to be considered very complex and difficult to use. Just a few decades back, most insurance companies were either unwilling to or unable to use catastrophe models. However, over the past couple of decades, the field of catastrophe modeling has seen rapid change. The increase in computing power has led to catastrophe…
Reinsurance companies have to pay out large sums of money in claims if and when a catastrophe occurs. Each time a hurricane, a flood, or any other catastrophe hits, insurance companies lose money. The monetary losses can be quite significant since catastrophe by definition refers to a natural disaster. Hence, it is in their best…
Climate change is a burning issue in 2022. There is not even an iota of doubt that climate change affects almost everyone in the world in one form or another. However, some industries are impacted more than others. The reinsurance industry is among the ones which are deeply impacted. Climate change has been identified as being among the biggest risk factors for the reinsurance industry. In this article, we will see how the reinsurance industry is affected by climate change.
Now, catastrophe modeling is done based on empirical data. This means that the data on catastrophes that have happened in the past is considered to be the basis for the catastrophes which are likely to happen in the future. The problem is that because of climate change, the correlation between past events and future events is reducing.
For example, the reinsurance industry faced claims totaling to $600 billion between 1980 and 2014. However, the same industry has now paid out claims of over $200 billion in both 2020 and 2021. Hence, the pace at which catastrophes are leading to claim payouts is clearly increasing. Reinsurance companies are seeing a rapid increase in the frequency of raising claims and also the severity with which claims are raised.
The problem with climate change is that it is still a nascent phenomenon. Hence, there isn’t enough data available to accurately adjust the catastrophe models in order to include the risks. There are a couple of more factors that make pricing more challenging.
Firstly, claims related to climate change are sporadic. This means that losses occur suddenly whereas the premiums have to be raised on an annual basis. Also, many steps are being taken to prevent the deterioration of climate worldwide. The degree to which these steps are followed will also have an impact on the actual losses incurred because of climate change. Since almost all the components are unpredictable, adjusting the premiums to deal with this situation becomes quite difficult.
If the data for only the past 30 years is taken into account, the risks seem to be far greater than compared to when we take the total available data into account. Hence, there is almost an industrywide consensus that the reinsurance company is underestimating the risks that they have underwritten. The only disagreement is how much the underestimation has been. There are some experts who believe that the reinsurance companies have only accounted for half the risks that they actually face!
The end result is that there is increased volatility in the earnings that reinsurance companies are able to generate. Also, since losses can arise at almost any time, the reinsurers have to ensure that they keep a large percentage of their funds in assets which can be easily liquidated. This creates a situation in which the reinsurance company is not able to completely utilize the capital that they have on hand.
The fact of the matter is that climate change is a huge factor for reinsurance companies. Also, since it is quite new and unpredictable, reinsurance companies are finding it difficult to tackle the same.
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