Katrina will have a significant impact on the world insurance markets, and the impact will be felt quickly in the form of higher prices for many property and casualty insurance lines. Here’s how this works.
Insurers price their coverage based on statistical models that take into account the probability of claims occurring and the potential expense of those claims. In those years where few natural disasters occur, insurers do quite well. In bad years, they get hammered, either by one big event or a number of smaller events or, in the worst case, several big events.
Most primary insurers buy “excess” insurance from another firm, such as Lloyd’s of London. This excess, or re-insurance, allows the primary insurer to spread the risk, so catastrophic events such as Katrina don’t bankrupt them. However, Lloyd’s, General Re, Swiss Re, and the other reinsurers end up with significant exposure to this type of event.
Early reports indicate that Katrina’s devastation is not nearly as bad as it could have been. This is due to two factors – the storm did not directly hit New Orleans and its intensity was reduced appreciably before it made landfall. Damage to the refineries and platforms appears to be minimal, or at least less than expected. However, estimates are that Katrina will cost insurance companies between $9 and $16 billion. While the upper end of this range is higher than the most expensive hurricane in history, it is well under early predictions of $30 billion.
According to Forbes “The 2004 US hurricane season was the most destructive on record, causing insurance losses of 22.835 bln usd, according to the III.(Insurance Information Institute) The single most destructive hurricane to date is hurricane Andrew, one of only two Category Five hurricanes to hit the US mainland, which left insurers facing claims of 15.5 bln usd in 1992.
The changes in Katrina’s direction and intensity were good news for the insurance world, as most properties carry insurance that covers not only the cost of repairing them, but also the income lost when the facilities are out of operation, and any environmental damage resulting from their destruction.
Personal insurance lines losses will likely be quite high, especially in the property and auto lines. Business interruption and property are likely to take a substantial hit as well.
What does this mean for you?
Expect to see insurance prices spike. Reinsurers will have to cover their losses by charging more for excess coverage, driving up primary insurance costs. Primary insurers will have to not only increase prices to pay the higher reinsurance premiums, but to cover their losses as well.
This will be felt across all insurance lines, from workers compensation to homeowners to small business to directors and officers.
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