Bringing Science to the Art of Underwriting™ TM Modeling Catastrophe Risk to Marine and Energy Exposure in the Gulf of Mexico Houston Marine Insurance.

Bringing Science to the Art of Underwriting™

TM

Modeling Catastrophe Risk to Marine and Energy Exposure in the Gulf of Mexico

Houston Marine Insurance Energy Seminar

Hemant Shah, CEO Risk Management Solutions

September 18, 2006

2CONFIDENTIAL© 2006 Risk Management Solutions, Inc.

TM

New Orleans, September 3 2005

70-80% of New Orleans flooded, 55% of the city’s 147,000 properties

inundated by more than 4 feet Maximum flood depths 18 feet.


TM

New Orleans Before the Pumps, 1888


TM

Pumps initially deployed from 1913-1928

The Expansion into the Floodplain


TM

1915 “New Orleans” Hurricane

Cat 4 Hurricane, 20 miles east of New Orleans (Grand Isle)– “Whole country between Poydras and Buras inundated. Levees gone, property

loss appalling. Life toll probably heavy. Conditions estimated worse than ever before. Relief needed. No Communications..."

Storm struck before the construction of the Industrial Canal On the Mississippi River below New Orleans storm surge

overtopped the levees below New Orleans and rose to 15-20 feet above sea level. – Swells rolled up the river in New Orleans 10-12 feet above high water.

Water was carried into Lake Pontchartrain and overflowed the existing levees to flood western part of the city – From the Old Basin canal (parallel to Orleans Avenue) to Broadway

and from Claiborne Avenue to Lake Pontchartrain

– Flooding 1-8 feet

After the passage of the storm the surge receded rapidly but the flood waters stayed in place for 3-4 days in New Orleans and had to be removed by the drainage system

(from1915 Monthly Weather Review).


TM

The Expansion into the Floodplain

Second Second generation of generation of pumps pumps elevated to be elevated to be able to function able to function after a floodafter a flood

Bayou St. Jean at Lake PontchartrainBayou St. Jean at Lake Pontchartrain


TM

1947 Hurricane

Cat 3 directly over the City

Surge overtopped LakePontchartrain levees

17th St Canal wall failed

Up to 6 feet of water in parts of Jefferson parish

Standing water for weeks

– Removed through cutting and blasting holes in the levees


TM

Growth of New Orleans

Population of New Orleans

0

100000

200000

300000

400000

500000

600000

700000

1800 1820 1840 1860 1880 1900 1920 1940 1960


TM

New Orleans Canals

Drainage CanalsMid 19th Century

Industrial Canal(link between Lake Pontchartrainand Mississippi R)1923

Inner HarborNavigation Canal 1923

Misssippi RiverGulf Outlet 1965

Developed after 1945


TM

1965 Hurricane Betsy

Cat 3 Hurricane

12 foot storm surge

60,000 homeless


TM

1965 Hurricane Betsy - Presidential Response


TM

2005 Hurricane Katrina - Presidential Response


TM

100 Years of Storm Surge Flooding

1965 2005

1915 1947


TM

One Disaster Sets The Terms For The Next


TM

Mayor Pomfh’s Vision…

“I want to give positive assurance that our friends will find Miami this winter the same enjoyable, hospitable, comfortable vacation city it has always been.

I predict that Miami will make a world record come-back…we are ready to resume our place as the playground of the world”

-Miami Mayor E.C. Pomfh

…speaking six days after the September 18, 1926 storm struck south Florida


TM

Mayor Pomfh’s Vision…Realized

1990 Population of Dade and Broward alone exceed that of all 109 coastal counties (TX – VA) in 1930

– Of 67 coastal counties in LA ->FL, pop. density is 2.5X national average

During the Florida construction boom from 1970 – 1990:

– 70% of buildings in Broward and Palm Beach counties built in this period

– 75% increase in the population density in SE Florida

– Commercial values almost tripled in value The trend continues; from 1990 to 2000:

– The population of Broward County increased by 29%,

– and Collier County by 65%

Currently, 1,540 building permits issued in coastal counties every day


TM

U.S. Hurricane Risk, RiskLink v6.0

““Tail” Tail” (Hurricane)(Hurricane)

$40 – 60B$40 – 60BKatrinaKatrina

Pro

bab

ilit

yP

rob

abil

ity

Pro

bab

ilit

yP

rob

abil

ity

LossLossLossLoss

$120 – 250B$120 – 250BMiami Cat 5, NYC Cat 4Miami Cat 5, NYC Cat 4 $300 – 350B$300 – 350B

““Worst Case”Worst Case”


TM

The Capital Crunch will Catalyze Change

• New capital entering the market?

• Capital markets alternatives?

• Shortage of cover

• Change in market architecture?

-

10

20

30

40

50

60

70

80

90

Increase in one-in-250-year loss Capital increase

Lo

ss (

$bil

lio

n)

Personal lines

Commercial lines

$55 billion

$82 billion

Commercial lines

Personal lines


TM

What is a Catastrophe Model?

CONFIDENTIAL© 2006 Risk Management Solutions, Inc.

TM

Utility of a Catastrophe Model

GeographyGeography of Risk of Risk

Demographics of Demographics of of Risk ( of Risk (Gross/Net)Gross/Net)

Probability of Risk Probability of Risk (EP Curve)(EP Curve)

0 300

Miles

600

CONFIDENTIAL© 2006 Risk Management Solutions, Inc.

TM

Offshore Platform Modeling FrameworkRMS RiskLink v6.0, Released May, 2006

Define Hurricane

Claiming

Storm parameters

Basin-wide tracks, realistic time histories

Onshore and offshore “clash”

Time-stepping Time-stepping windfield windfield calculationscalculations

Windspeed and Windspeed and wave heightwave height

Submarine landslide

Physical damage Physical damage (PD)(PD)

Loss of productionLoss of production

BI, CBI, OEE


TM

Recent Storms to Impact the Offshore GOM

Plot of maximum windspeeds - 2002 to 2005 Lili, Ivan, Katrina & Rita


TM

Recent Storms to Impact the Offshore Region

Category

% Platform

s

1

2

3

4

5

5%

24%

33%

27%

5%

Total 94%

94% of the 4,200 offshore platforms in GOM experienced Cat 1 winds or greater from 2002-2005


TM

Hurricane Losses to Offshore ExposureIvan (’04), Katrina and Rita (’05)

Event Loss ($M)

Ivan

Total Insured

Platform PD

2,700

550-600

Katrina

Total Insured

Platform PD

6,000

3,000-3,200

Rita

Total Insured

Platform PD

5,000

2,400-2,600Obtained from various industry sources


TM

Lessons Learned of Relevance to Offshore Energy

Frequency and intensity of hurricane activity

– Likely to face elevated levels of hurricane activity over at least the medium term

– Prior modeling practice, based on long-term historical averages, underestimated the occurrence of intense storms

Vulnerability to damage and insured loss

– Physical damageability of platforms (et al) greater than previous expectation

– Time element risks are significant, and must be modeled

– Greater variability in risk to various classes of exposure

Making the transition from 1st to 2nd generation models


TM

Frequency of Hurricane Activity


TM

A Conspiracy Between Mother Nature and Developers?

Category 3-5 Atlantic Basin Hurricanes

1901-2005 and 5-year running average

Sustained period Sustained period in population in population growth and growth and economic economic development of development of coastal Gulf and coastal Gulf and SE regions of the SE regions of the U.S.U.S.


TM

0.2

0.4

0.6

0.8

1.0

1.2

1950 1960 1970 1980 1990 2000

0.6 = Average from 1900 - 20030.6 = Average from 1900 - 2003

0.9 = Ave. from 1995 - 20050.9 = Ave. from 1995 - 2005

US Landfalling Cat 3-5 Hurricanes

Decadal moving averageDecadal moving average


TM

Tropical Atlantic Sea Surface Temperature Departures (ºC) During Aug-

Oct (1951-2000 Base Line)

00

-0.2-0.2

-0.4-0.4

-0.6-0.6

-0.8-0.8

0.20.2

0.40.4

0.60.6

0.80.8

19501950 19601960 19701970 19801980 19901990 20002000

CCoo

0.5 C0.5 Coo


TM

Named Storms 11 15 28 13-16

Hurricanes 6 9 15 8-10

Cat 3-5 2 6 7 4-6

Cat 5 0.4 1 4 N/A

US Hurricanes 1.6 6 5 88%

US Cat 3-5 0.7 3 4 81%

Hurricane Activity on the Rise?

Initial 06 ForecastInitial 06 Forecast“Very Active”“Very Active”

Average Average 1950-20051950-2005

Other factors, Other factors, including temporal and geographic expansion of the basin; and including temporal and geographic expansion of the basin; and sustained intensity of stormsustained intensity of storm

20042004 20052005


TM

NOAA Declares the Onset of an El Niño

September 10th, 2006

“Scientists at the NOAA Climate Prediction Center reported that El Niño conditions have developed in the tropical Pacific and are likely to continue into early 2007…Ocean temperatures increased remarkably in the equatorial Pacific during the last two weeks.”

"Currently, weak El Niño conditions exist, but there is a potential for this event to strengthen into a moderate event by winter…also, the development of weak El Niño conditions helps explain why this Atlantic hurricane season has been less active than was previously expected.”

“El Niño typically acts to suppress hurricane activity by increasing the vertical wind shear over the Caribbean Sea region. However, at this time the El Niño impacts on Atlantic hurricanes are small. We are still in the peak months of the Atlantic hurricane season, and conditions remain generally conducive for hurricane formation.”


TM

Expansion of the Atlantic Basin?

Tropical Cyclone Catarina Brazil Tropical Cyclone Catarina Brazil March 26March 26th – th – 2727thth 2004 2004

First S. Atlantic Hurricane?First S. Atlantic Hurricane?

Hurricane Alex (Cat 3) Hurricane Alex (Cat 3) most intense N of 38Nmost intense N of 38N

Aug 3Aug 3rd rd - 5- 5thth 2004 2004

Hurricane Ivan (Cat 5) Hurricane Ivan (Cat 5) Longest lastingLongest lasting

Intense HurricaneIntense HurricaneSept 5Sept 5thth – 16 – 16thth 2004 2004

Hurricane Wilma (Cat 5) Hurricane Wilma (Cat 5) most intense Atlantic most intense Atlantic Hurricane – 882 mbHurricane – 882 mbOct 18Oct 18thth – 25 – 25thth 2005 2005


TM

Vigorous & Visible Debate on Climate


TM

Climate Change Debate and Hurricane Activity

The WMO (World Meteorological Organization) has released a statement on the current state of debate– “The division in the community is not as to whether

Global Warming can cause a trend in tropical cyclone intensities. Rather it is on whether such a signal can be detected in the historical data base.”

– “Whilst the existence of a large multi-decadal oscillation in Atlantic tropical cyclones is still generally accepted, some scientists believe that a trend towards more intense cyclones is emerging.”

– “No single high impact tropical cyclone event of 2004 and 2005 can be directly attributed to global warming, though there may be an impact on the group as a whole.”

Prepared by the WMO/CAS Tropical Meteorology Research Program, Steering Committee for Project TC-2: Scientific Assessment of Climate Change Effects on Tropical Cyclones. February 2006


TM

RMS Expert Elicitation, October 2005

Tom KnutsonTom KnutsonGFDL, NOAA, GFDL, NOAA, Princeton, NJPrinceton, NJ

Kerry EmanuelKerry EmanuelProfessor, MITProfessor, MIT

Mark SaundersMark SaundersProfessor, University Professor, University College LondonCollege London

Jim ElsnerJim ElsnerProfessor Professor

Florida StateFlorida State The Multidecadal Cycle The Multidecadal Cycle

19501950 19701970 1990199019301930 20102010 20302030

activityactivity

vv

The Climate Change TrendThe Climate Change Trend

19501950 19701970 1990199019301930 20102010 20302030


TM

Geography of Hurricane Activity IncreaseChanges in CAT 3-5 Activity vs. 1900-2005

+ 15 - 20%+ 20 - 30%+ 30 - 45%+ > 45%

Cat 1-2: 21% increase in activity Cat 3-5: 36% increase in activity

20% OP increase in rates


TM

Vulnerability to Damage and Insured Loss


TM

Comparison of Industry Platform PD Losses to Modeled Estimates


TM

Development of Vulnerability Curves

Approach

– Analytical damage assessment• Detailed platform hurricane damage analysis reports

• Evaluation of structural response to wind and wave action

• Design guidelines

– Detailed analyses of historical claims data

Vulnerability curves are functions of:

– New construction classes

– New year-built ranges

– New occupancy classes

– Modeling of OEE

– Modeling of CBI

– OP specific loss amplification


TM

New Construction Classes

Shallow Water

Fixed

– Up to 1971

– Post 1971

Deepwater

Jackups Caissons/Well

Protectors

– Up to 1971

– Post 1971 Fixed

– Up to 1971

– 1972 – 1980

– 1981 - 1993

– Post 1993 TLP/Spar Semi-submersibles Drillship

RiskLink® 5.0 RiskLink® 6.0

{

{


TM

Wind Speed/Wave

MD

R

6.0: Jackups

5.0: Shallow Water

Mobiles

Jackups Used for drilling new wells –

move from location to location

Design Requirements

– 10-Yr API Design• Wind (1-min): 78 mph

• Significant wave height: 26 ft

Typical damage mechanisms

– Failure of legs and separation of hull

Ocean Warwickafter Katrina


TM

Wind Speed

MD

R

6.0: Semis

5.0: Deep Water

Mobiles

Semi-Submersibles Used for drilling new wells – move from location to location

Design requirements

– Mooring line design criteria: similar to Jackups

– Rig itself designed to more stringent criteria


– Mooring lines break

– Anchors dragged


TM

Platforms in Shallower Water

Wind Speed

MD

R

6.0: Caisson Up to '71

6.0: Caisson - Post '71

5.0: Shallow Water

Caisson/Well Protector Design requirements

– No design guidelines pre-1971

– Typically 100-yr winter storms/sudden hurricanes


– Damage to deck and rails

– Bending of well jacket


TM

Platforms in Shallower Water

Wind Speed

MD

R

6.0: Fixed-Pre '71 6.0: Fixed-'72 - '80 6.0: Fixed-'81 - '93 6.0: Fixed-Post '93

5.0: Fixed - Structure Upto 1971 5.0: Fixed - Structure Post 1971

Fixed Platforms Design requirements

– No design guidelines pre-1971

– Typically 100-yr design criteria

– Further changes in 1980 and 1993


– Wave-in-deck

– Buckling of legs


TM

Platforms in Deeper Water

Used for drilling new wells – move from location to location

Typically of modest risk since drill ships can be moved away from path of inbound storms

Drill Ship

Wind Speed

MD

R

6.0: Drillships

5.0: Deep Water


TM

Platforms in Deeper Water

Design requirements

– Stringent design guidelines

– Designed for deeper waters


– Wave-in-deck

– Wind damage to topsides

Damage to Mars during Katrina

TLP/Spar

Wind Speed

MD

R

6.0: TLP/Spars

5.0: Deep Water


TM

Loss of Production Income (LoPI) Modeling Business Interruption (BI)

– Direct physical damage caused to the platform

– Modeled through effective downtime

Contingent BI (CBI)

– Damage to upstream facilities typically not owned by assured

– Pipeline• Mudslide

• Falling objects such as collapsed platforms

• Anchor drags

– Other platforms that serve as collection/processing hubs

– Damage to onshore facilities


TM

Operator’s Extra Expense (OEE) Modeling Coverage includes:

– Control of well

– Redrill costs

Modeled for:

– Caisson/Well Protectors

– Fixed platforms

Platform needs to be severely damaged/ collapsed

OEE vulnerability functions based on the probability of severe platform damage

Validated on MMS Well information

Ivan Katrina Rita

Num

ber

of

Wells

Lost

ReportedModeled


TM

Change in Modeled PD Risk, Industry Aggregate

2006 IED


TM

Evolution in Re/insurer Modeling and Risk Management Practice


TM

Risk increasing (modeled risk, more risks)

Capital requirements increasing (even for same risk)

Re/insurance rates increasing

Insurers are taking action to manage their exposures

Insureds retaining more risk

New capital entering the market, and ART

Insurance Industry Dynamics in Flux

““We remain of the opinion the amount of capital required by a We remain of the opinion the amount of capital required by a re/insurer in peak zones will increase by 50%+. We believe that re/insurer in peak zones will increase by 50%+. We believe that demand for coverage will increase as the new models are demand for coverage will increase as the new models are introduced, new PMLs are calculated, and rating agencies require introduced, new PMLs are calculated, and rating agencies require more capital”more capital”

- - Dowling and Partners Dowling and Partners

““We remain of the opinion the amount of capital required by a We remain of the opinion the amount of capital required by a re/insurer in peak zones will increase by 50%+. We believe that re/insurer in peak zones will increase by 50%+. We believe that demand for coverage will increase as the new models are demand for coverage will increase as the new models are introduced, new PMLs are calculated, and rating agencies require introduced, new PMLs are calculated, and rating agencies require more capital”more capital”

- - Dowling and Partners Dowling and Partners


TM

Severity / Correlation

frontier ofmodelability

Low High Extreme

SUPER-CAT

CAT Risk

Non-CATRisk

• Pricing• Risk Transfer• Capital efficiency

• Control• Capital adequacy

Fre

qu

ency

Lo

wH

igh

notmaterial

Risk Management Approach

• Per-risk models / scoring

• Probabilistic portfolio models

• Scenarios• Accumulation

Risk Measurement Techniques

Integrated Decision Making Under “Deep” Uncertainty


TM

Modeling and Underwriting, Together““The most important factor in improving underwriting is better The most important factor in improving underwriting is better

information on risks…executives say believe that they need more information on risks…executives say believe that they need more granular risk assessments than traditional approaches”granular risk assessments than traditional approaches” - - Economist & Deloitte Insurance Survey 2003Economist & Deloitte Insurance Survey 2003

““Disciplined underwriting will continue that highlights exposure Disciplined underwriting will continue that highlights exposure data, related loss modeling and pertinent underwriting data, related loss modeling and pertinent underwriting information”information”- - 2005 Insurance Market Overview2005 Insurance Market Overview

““Whether they misclassify risk or allow risk pricing to be Whether they misclassify risk or allow risk pricing to be driven by the market instead of underwriting discipline...is driven by the market instead of underwriting discipline...is the fundamental driver of low returns in this industry”the fundamental driver of low returns in this industry”- - McKinsey & Company, The Journey Revisited 2004McKinsey & Company, The Journey Revisited 2004

““There is one certainty amid all this confusion. We are in a There is one certainty amid all this confusion. We are in a period of increased frequency and severity of hurricane period of increased frequency and severity of hurricane activity. The sooner the industry accepts this and adapts its activity. The sooner the industry accepts this and adapts its underwriting, the better off it will be”underwriting, the better off it will be”- - 2006 U.S. Insurer, Editorial Page2006 U.S. Insurer, Editorial Page


TM

We Live in a Quantum World

Bringing Science to the Art of Underwriting™ TM Modeling Catastrophe Risk to Marine and Energy Exposure in the Gulf of Mexico Houston Marine Insurance.

Documents

ceo risk management

hurricane risk

oee slide

day slide

floodplain slide

tm utility

katrina rita slide

b worst case slide