A Berkshire Hathaway Company Marine Reinsurance in 2008 21 January 2008.

A Berkshire Hathaway Company

Marine Reinsurance in 2008

21 January 2008

2

3 Issue’s and Trends

4 Pricing in the Future

1 Reinsurance Market

2 Basic Principles of Reinsurance

TABLE OF CONTENTS

3

The Insurance Industry – Simplified

INSUREDS

Broker / Agent / Producer

INSURERS

REINSURERS

R/I BROKERS

LLOYDS


4

Top Ten Global Property/Casualty Insurance Companies, by Revenues, 2006

1 Allianz Germany $125,3462 American International Group U.S. $113,1943 Berkshire Hathaway U.S. $98,5394 Zurich Financial Services Switzerland $65,0005 State Farm Insurance Cos. U.S. $60,5286 Munich Re Group Germany $58,1837 Millea Holdings Japan $36,0678 Allstate U.S. $35,7969 Swiss Reinsurance Switzerland $32,118

10 Hartford Financial Services U.S. $26,500

(1) Based on an analysis of companies in the Global Fortune 500. Includes stock and mutual companies.(2) Revenues include premium and annuity income, investment income and capital gains or losses, but exclude deposits; includes consolidated subsidiaries, excludes excise taxes. Source: Fortune.

US$ millions

1 Allianz Germany $125,3462 American International Group U.S. $113,1943 Berkshire Hathaway U.S. $98,5394 Zurich Financial Services Switzerland $65,0005 State Farm Insurance Cos. U.S. $60,5286 Munich Re Group Germany $58,1837 Millea Holdings Japan $36,0678 Allstate U.S. $35,7969 Swiss Reinsurance Switzerland $32,118

10 Hartford Financial Services U.S. $26,500


5

World Largest Reinsurance Brokers Source: Business Insurance, October 24, 2005

2005 Gross Revenues 2004 Gross Revenues % Change

1 Aon Re Global $920,000,000 $940,000,000 -2% 3,0002 Guy Carpenter & Co. Inc. 838,000,000 868,000,000 -3% 2,6063 Benfield Group Ltd. 589,800,000 558,300,000 16% 1,7004 Willis Re 565,000,000 550,000,000 15% 1,1595 Jardine Lloyd Thompson 155,800,000 145,200,000 7% 4336 Towers Perrin 153,300,000 146,000,000 5% N/A7 Cooper Gay (Holdings) Ltd. 92,800,000 57,550,000 2%8 BMS Group 75,300,000 73,000,000 3% 4759 Gallagher Re 75,000,000 78,000,000 -4% 20010 John B. Collins 52,000,000 48,100,000 8% 311

377


6

Top 10 Global Reinsurers by total net written reinsurance premium – 2006 Source: S&P Global RI Highlights ( Sept 2007)

2006 Ranking Company

2006 Net RI Premium Written ($ MM's)

1 Munich Re, Germany 25,4322 Swiss Re, Switzerland 23,8413 General Re/Berkshire Hathaway, US 11,5764 Hannover Re, Germany 9,3535 Lloyd's of London, UK 8,4456 SCOR 4,885

7 RI Group of America 4,3438 Everest Re 3,8759 Partner Re 3,68910 Transatlantic Holdings, US 3,633

* Property & Casualty + Life Premiums


7

1.1

0

1.0

8

1.1

0

1.0

3

1.0

2 1.0

6

1.1

4

1.1

3 1.1

7

1.0

1 1.0

6

1.2

6

0.9

5

1.3

9

1.2

1

1.0

6

1.0

7

1.0

7

1.0

9

1.1

8

1.0

7 1.0

8

0.9

1.0

1.1

1.2

1.3

1.4

1.5

85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06

Lo

ss

& L

AE

Ra

tio

Despite the respite in 2006, reinsurers paid an average of $1.11 in loss and expense

for every $1 in written premium since 1985

Hurricane Andrew

Sept. 11

Katrina, Rita, Wilma

Liability Crisis

1 Reinsurance MarketRatio of Reinsurer Loss & Underwriting Expense to Premiums Written, 1985-2006

8

S&P Financial Strength Rating Changes

Ratings as of January 2006

AAA AA+ AA AA- A+ A A- BBB+ Watch / OutlookBerkshire / General Re X StableSwiss Re X Watch - Negative Chubb Re (Federal) X StableAXA Re X PositiveEverest Re X StableHannover Re X Negative Partner Re X StableTransatlantic Re X StableXL Re X StableACE Tempest Re X StableW.R. Berkley X StableMunich Re / American Re X StableRenaissance Re X StableAspen Re X NegativeAxis Specialty X StableEmployers Re / GE Re X Watch - PositiveIPC Holdings X NegativeLloyd’s X StableEndurance Re X PositiveMontpelier Re X NegativePXRE X StableSCOR X StableAlea X StableConverium Re X Stable

This chart was created by Gen Re solely for its use and that of its clients and should not be reproduced or distributed furtherSource: standardandpoors.com


9

Development of Corporate Capital at Lloyd’s

PricewaterhouseCoopers Review 2002, updated 2005%

of L

loyd

’s c

apac

ity

0

10

20

30

40

50

60

70

80

90

100

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

Individual

Corporate & other


10

Suppliers of Lloyd’s Capital (2005)

PricewaterhouseCoopers Review, 2002 updated Lloyds Annual Review, 2005

14%

34%

17%

17%

11%

7%Non-insurance industry

US insurance industry

Bermudian insurance industry

Other insurance industry

Names' conversion capital

Names (unlimited)

62 Syndicates

1625 “Names” (Individual)


11

WHAT IS “REINSURANCE ?”

• A way to spread risk

• A contract of indemnity between an Insurer and a Reinsurer

• Original Insured - no contractual right or privity

• Contract between two informed parties

• Always transfer of risk


12

Major Types of Reinsurance

Treaty

• certain group or class of business reinsured under a single contract

• Obligatory nature – if it “fits” the contract it must be ceded, and accepted.

Facultative

• separate reinsurance contract negotiated on each risk

• No obligation on either party’s behalf to place or accept the risk

Facultative and Treaty

FACULTATIVE HYBRID TREATY

Pro RataPro Rata Excess of LossExcess of Loss

QuotaShareQuotaShare

SurplusShare

SurplusShare

PerOccurrence

PerOccurrence

AggregateExcess of Loss


PerRiskPerRisk

Per RiskExcess of Loss


Per RiskAggregate Excess of Loss



13

Reasons to Buy Treaty Reinsurance

• Spread of risk

• Stabilization of underwriting results

• Catastrophe relief (one occurrence affecting multiple policies, i.e., Hurricane Andrew)

• Underwriting assistance

• Premium capacity

• Ease of use


14

Reasons to Buy Fac Reinsurance

• Large line capacity

• Treaty-excluded business

• Treaty protection

• Accommodation for a good agent or insured

• Catastrophe (a large loss affects one policy versus five)

• Underwriting expertise

• Flexibility


15

Major Types of Reinsurance

Excess of Loss

• also known as NonProportional reinsurance

• reinsurer agrees to indemnify the ceding company for losses that exceed a specified retention up to an agreed-upon limit

Pro Rata

• also known as Proportional reinsurance

• insurance amount, premium and losses under a primary contract are shared between the ceding company and the reinsurer in an agreed proportion

Pro Rata and Excess of Loss

FACULTATIVE HYBRID TREATY

Pro RataPro Rata Excess of LossExcess of Loss

QuotaShareQuotaShare

SurplusShare

SurplusShare

PerOccurrence

PerOccurrence



PerRiskPerRisk






16

Cession

Retention

Cession

(% or Line)

Retention

Non-Proportional or Excess of Loss Reinsurance

Proportional or shared Reinsurance


Pro Rata and Excess of Loss

17

Pro Rata Reinsurance (Proportional)

Pro Rata

• How It Works

• Three Types of Pro Rata Reinsurance

– Quota Share

– Surplus Share

– Contributing Excess

ReinsurerParticipation

40%

CompanyParticipation

60%

Quota Share


18

Pro Rata Reinsurance (Proportional)

Surplus Share

• Retention expressed in $$.

• Often referred to as a “line.”

• Insurer retains 100% of risks up to

the $$ amount of their “line.”

• Cede all amounts in excess of that.


75%

Com

pany

Par

ticip

atio

n25

%


19

Excess of Loss (XOL or Non-Proportional)

• The reinsurer promises to reimburse the ceding company for losses that exceed the ceding company's retention

• The reinsurer reimburses the ceding company up to the reinsurance limit stipulated in the reinsurance contract

• In return for this promise, the reinsurer charges the ceding company a premium




20

Reducing the volatility. How does that work?

Ideal is to keep the predictable and cede the volatile / unpredictable.

Small Losses: Large # of relatively predictable losses; very manageable with right tools

Medium Losses: Some years more, some years less; can afford cost over time but need smoothing

Jumbo Losses: Rare, random, and virtually unpredictable.; usually relatively few exposures in portfolio

Excess of Loss


21

Total Loss

Fire/Lightning/Explosion

Machinery damage/small fire

Theft/small fire/shortage


Excess of Loss – marine pyramid view of a risk

22

Often non proportional reinsurance coverage is layered, whereby the deductible of one layer is the sum of deductible and limit of liability of the underlying layer

0

1

2

3

4

5

6

7

8

2. XL: 3 mio xs 4 mio

1. XL: 2 mio xs 2 mio

deductible


Excess of Loss - Layering

23

• it is easier to place liabilities in smaller amounts

• some smaller reinsurers specialise in particular levels of cover

– lower/“working” layers, or

– higher/“catastrophe” layers (“sleep easy”)

• the nature and extent of risk is different at different levels of cover


Excess of Loss – Layering - reasons

24

• layering therefore allows more accurate assessment of the appropriate XL premium

• inclusions/ exclusions of specific classes (e.g. CXL treaties covering PA, WC/EL, MTPL, MOD etc)

• different conditions for several layers

– scope of protection

– annual aggregate limits

– reinstatements


Excess of Loss – layering - reasons

25

• The limit of liability can be provided more than once e.g. 3 reinstatements for a risk layer and 1 for a cat layer

• There is a maximum annual limit equal to the limit of liability plus the limit multiplied by the number of reinstatements

• The reinstatement functions automatically when the original limit of liability or any part thereof is consumed by a loss

• An additional premium is often charged for this reinstatement


Excess of Loss - reinstatements

26

• The basis of coverage is specified in the contract and determines which losses the reinsurer is liable for:

- Losses occurring during the reinsurance year

- Risk attaching, i.e. losses arising under policies issued or renewed during the reinsurance year.


Excess of Loss – basis of coverage

27

• Losses occurring basis: all reinsurers involved from 1.1.2000 to 31.12.2000 are liable

• Risk Attaching basis: all reinsurers involved from 1.1.99 to 31.12.99 are liable

x

1999 2000

Loss date 8.1.2000original policy period: 1.4.99 - 31.3.2000


Excess of Loss – basis of coverage

28


75%

Com

pany

Par

ticip

atio

n25

%

Company Retention$ 250,000

EXCESS OF LOSS vs PRO RATA REINSURANCE Loss Treatment Comparison


Limit$5M

Excess of LossQuota Share


60%


40%

ExcessPro Rata

Surplus Share(3 Lines Retention)


29


75%

Com

pany

Par

ticip

atio

n25

%

Company Retention

EXCESS OF LOSS vs PRO RATA REINSURANCE Loss Treatment Comparison


Limit$5M

Reinsurer$1,750,000

Company Participation$250,000

Loss$2M

Excess of LossQuota Share


60%


40%

ExcessPro Rata

$800,000 $1,200,000

Surplus Share(3 Lines Cession)

$1,500,000

$500

,000


30


• Catastrophes

• Security (Basel II)

• Securitization

31

U.S. Insured - Catastrophe Losses ($ Billions)$7

.5

$2.7

$4.7

$22.

9

$5.5 $1

6.9

$8.3

$7.4

$2.6 $1

0.1

$8.3

$4.6

$26.

5

$5.9 $1

2.9 $2

7.5

$56.

8

$100

$0

$20

$40

$60

$80

$100

$120

89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05

20??

Excludes $4B-$6b offshore energy losses from Hurricanes Katrina & Rita.Note: 2001 figure includes $20.3B for 9/11 losses reported through 12/31/01. Includes only business and personal property claims, business interruption and auto claims. Non-prop/BI losses = $12.2B.Source: Property Claims Service/ISO; Insurance Information Institute

$ Billions

2005 was by far the worst year ever for insured

catastrophe losses in the US, but the worst has yet to come.

$100 Billion CAT year is coming soon


32

30%25%

60%

20%

45%

0%

10%

20%

30%

40%

50%

60%

70%

Hurricane Hugo(1989)

Hurricane Andrew(1992)

Sept. 11 TerrorAttack (2001)

2004 HurricaneLosses

2005 HurricaneLosses

Reinsurance is playing an increasingly

important role in the financing of mega-CATs; Reins. Costs

are skyrocketing

Share of Losses Paid by Reinsurers, by Disaster


33

S&P Financial Strength Rating Changes

Ratings as of January 2006

AAA AA+ AA AA- A+ A A- BBB+ Watch / OutlookBerkshire / General Re X StableSwiss Re X Watch - Negative Chubb Re (Federal) X StableAXA Re X PositiveEverest Re X StableHannover Re X Negative Partner Re X StableTransatlantic Re X StableXL Re X StableACE Tempest Re X StableW.R. Berkley X StableMunich Re / American Re X StableRenaissance Re X StableAspen Re X NegativeAxis Specialty X StableEmployers Re / GE Re X Watch - PositiveIPC Holdings X NegativeLloyd’s X StableEndurance Re X PositiveMontpelier Re X NegativePXRE X StableSCOR X StableAlea X StableConverium Re X Stable

This chart was created by Gen Re solely for its use and that of its clients and should not be reproduced or distributed furtherSource: standardandpoors.com


34

Distribution of Capital Requirements

Source: Moody’s Special Comment, Growing Reinsurance Risk Weighs on P & C Insurance Market Recovery, August 2003


35

Increased Reinsurance Leverage

40%

45%

50%

55%

60%

65%

70%

75%

80%

85%

1998 1999 2000 2001 2002

Reinsurance Recoverables as % Industry Surplus



36

Moody’s

In the aftermath of a prolonged soft market for property and casualty insurance, the exposure of primary insurers to counterparty risk on reinsurance assets has become a key credit risk for the industry. Insurers that once gorged themselves at the trough of cheap reinsurance are finding their meal was anything but a free lunch. The ultimate tab has yet to be determined, but could well be much higher than insurers bargained for.”

“


37

Moody’s

“ In the face of these emerging concerns over reinsurance exposure, Moody’s is increasing analytic attention on reinsurance risk in our evaluation of ceding insurance firms, most notably in the context of assessing capital adequacy.”



38

Securitization: Or, why would an Insurer Securitize ?

• Alternative to catastrophe reinsurance

– Non-existent (reinsurance of last resort)

– Scarce

– Expensive

• Multi-year nature

• Collateralized : minimal / no credit risk

• May seek no payback – “winner” takes all

• Access to Capital markets

• Motivated (intermediaries) determined to make a market


39

Securitization – what is it?

Two Common Examples

• CAT Bonds (Ins. Linked Securities )

– Converts Ins risk to Securities form (capital market)

• Indemnity based - parallels reinsurance

• Indexed : (Industry L/R or Total Loss $$) = easier investor evaluation

• Parametric loss = f (event magnitude, location)

– EQ of magnitude 7.5 in California…

– Windstorm w/ sustained windspeed of XX kph in …

• Sidecars

– Proportional structure


40

CAT Bonds (ILS)

• Sponsor – Insurer / Reinsurer* / Corporation

• Issuer –

– Bankruptcy remote Special Purpose Vehicle

– R/I contract w/ Issuer

– Issues CAT bonds & places proceeds in collateral account

• Swap Counterparty – swaps investment returns to a LIBOR based rate.

• Investors

– Receive coupons (interest pmt) quarterly

– No “event” = receive principal @maturity

– “Event” = receive any remaining principal @ maturity


41

SIDECARS

• Capital market backing

• Little / no infrastructure – easy to dismantle

• Rely on other R/I’s to “manage” business

• Quota Share structure (proportional)

• Capital relief

• “Flexibility”


42

02000400060008000

100001200014000160001800020000

1999 2000 2001 2002 2003 2004 2005

Accounting Year

Global Hull Cargo Liability Energy Total

Global Marine Premium 1999-2005 (US$ Million), as reported


43

114.

2 118.

2

97.3

119.

4

109.

5

107.

9

92.4

89.6

102.

0

110.

4 115.

5

107.

2

102.

6

100.

0 104.

1

97.2

118.

4

98.8

109.

2

109.

6

108.

8

115.

7

106.

9

108.

4

106.

4

106.

0

102.

0 105.

9

108.

0

110.

1 115.

8

107.

5

100.

1

98.4 10

0.8

92.5

80

85

90

95

100

105

110

115

120

125

130

89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06*

Ocean Marine All Lines

Combined Ratio: Ocean Marine vs. All Lines


44

-5%

0%

5%

10%

15%

20%

25%

75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 0607

F08

F

Profitability Peaks & Troughs in the P/C Insurance Industry, 1975 – 2008F


45

Effects of pricing Strategy

• Scenario 1 Scenario 2• (no reduction) (10% reduction)

• POPeye the Sailor man Des Arster ex Ocean Marine Underwriter 2004

• ------------------------------------------------------------------- ---------------------------------------------------------------

• NWP US$23m NWP US$20.7m

• Expenses US$6m Expenses US$6m

• Expected Losses US$13m Expected Losses US$13m

• Expected Profit US$4m (83% CR) Expected Profit US$1.7m (92% CR)

• Result• A 10% decrease in rates results in a 57% decrease ( diff between $1.7 & $4m) in expected • profit.


46

• Scenario 3 Scenario 4• (Hold rate but lose 10% of business due to price) (Hold rate but losses 24% of business due to price)• ----------------------------------------------------------------------- -----------------------------------------------------------------------

• NWP US$20.7m NWP US$17.5m

• Expenses US$6m Expenses US$6m

• Expected Losses US$11.7m Expected Losses US$9.9m

• Expected Profit US$3m (85.5% CLR) Expected Profit US$2m (90% CLR)

• Result• Better to lose 10% of your book and keep rates the same than to discount your book by 10%.• Would need to lose 24% of your book to match the expected profit from a 10% decrease in rate.

Effects of pricing Strategy


47

Burning Cost versus Exposure

BURNING COST

An estimate of the future loss cost based on the experience of solely one account.

How it’s used

Premium = Total claims over period divided by period = average loss cost + profit + expenses.

Problem = net/gross/claims paid/outstanding/IBNR ?

Pricing error = Ignoring similar account large losses (one account is too small a basis) .


48

Original Insured: Costa Lot Fleet. 5 bulkers, youngest 2001, oldest 1980.

Year Premium Claims L/R

2001 300,000 200,000 67%

2002 250,000 300,000 120%

2003 310,000 250,000 81%

Total 660,000 750,000 114%

Renewal premium = Total claims 750,000 divided by 3 = ALC 250,000

250,000 + 35% (profit 15%, expenses 20%) = 337,500.

Therefore renewal premium = 337,500



49

EXPOSURE RATING 1

An estimate of the future loss costs based on the experience from a large group of similar risks.

How it’s used

Statistical claims data over a “book” of similar risks+profit+expenses = rate.

Problem = Selection error;

Hull - vessel type, flag, large enough group.



50

Original Insured: Costa Lot Fleet. 5 bulkers, youngest 2001, oldest 1980.

2001 bulker, value 20,000,000 statistical (exposure) rate = 0.2% Prem. = 40,000



1985 bulker value 10,000,000 statistical (exposure) rate = 0.85% Prem. = 85,000


Total loss cost = 278,850 + 35% = 376,447.



51

EXPOSURE RATING 2

An estimate of future loss cost based upon the estimation of volatility of layers without claims experience.

Cost of capital.

Expenses.

Volatility charge when possibility of portfolio destabilization due to higher layer exposure.



52

* Both methods have there place.

* The “Exposure” approach is far better suited to large, volatile risks.

* The exposure method better suited on risks of which underwriter has little or no experience - new/no claims data.

* Using the burning cost method to fine tune an exposure rate risk, can aid the individual risk assessment and pricing.



53

And Finally……

It is a difficult business but not a complicated one…

“Unlike the situation prevailing in many other industries – neither size nor brand name determines an insurer’s profitability. Indeed, many of the biggest and best–known companies regularly deliver mediocre results. What counts in this business is underwriting discipline”.

Warren E. Buffet

Berkshire Hathaway

2001 Letter to Shareholders

A Berkshire Hathaway Company Marine Reinsurance in 2008 21 January 2008.

Documents

reinsurance market slide

xstable swiss

xstable hannover

xstable xl

x stable renaissance

x stable transatlantic

x stable ace tempest

federal xstable axa