The Tianjin port explosion demonstrates the constant evolution of such events and calls for treatment of clash events as a ‘perpetual’ emerging risk. It is impossible to anticipate every type of clash event that might arise but a dynamic process of scenario generation, quantification and mitigation, covering a diverse range of event types provides a strong foundation for managing these complex exposures.
Natural catastrophe (“Nat Cat”) events such as hurricanes and earthquakes have historically been viewed as the key source for shock losses to the (re)insurance industry. The record, as shown in Chart 1, demonstrates that, on average, annual industry losses from Nat Cat events are 6-8 times higher than man-made events.
However, the 2015 Tianjin port explosion, with estimates of the insured costs in the region of US$2.5-3.5 billion, re-emphasised the point that severe accumulations can also result from clash events.1 And, of course, the $25 billion cost of the World Trade Centre (“WTC”) attacks, demonstrates that clash events have the potential to generate very significant losses.2
Importantly, the premium base to absorb man-made losses is much smaller than Nat Cats, reflecting their smaller expected losses. As a consequence, underwriting results are inherently volatile. For example, the aviation war (re)insurance industry suffered an estimated loss in excess of 350% from the single event at Tripoli airport in 2014.3 In addition, there is generally a longer payback period following a clash event.
Tianjin was not an unprecedented peril as accidental explosions are a known risk, yet some parties will likely have been caught off guard by the scale and randomness of this specific event. It served as an important reminder that such clash events should also receive proportionate resource and management attention.
Chart 1: Average Insured Loss and Largest Single Event
Source: Aspen, Swiss Re Economic Research & Consulting and Cat Perils
Quantification of man-made events, including the availability of third party vendor products, is in its infancy compared to the modelling capabilities available for Nat Cat risks. Man-made perils also possess several features that complicate robust risk assessment and include:
- Variability: Clash losses are defined as any event excluding Nat Cats, where multiple losses can arise from a single instance. This encompasses a large heterogeneous pool of perils with an extensive range including, war and terror, aviation and maritime, legal changes, economic recessions and cyber. Each of these perils has widely differing characteristics and demands different treatments.
- Geographical location: Accumulations often cannot be defined in terms of the location of the insured. For example, cyber-attacks have no geographic boundaries and can target all world-wide users of the compromised technology. Paradoxically, for terrorism, the affected area is so specific (e.g. a 250m radius blast zone) that the modelled loss for any one location can be sensitive to small portfolio changes and only a fraction of the potential targets can be assessed.
- Sparse Data: Given the low frequency of significant clash events, there is limited experience to inform assessments of realistic loss scenarios. For instance, as shown in Table 1, the top 40 events since 1970 contain 25 wind events (across the U.S., Europe and Japan) and six global earthquake events, but only the single WTC terror loss. Inclusion of the Tianjin explosion and the 2007/08 recession as a clash event for financial and professional classes does little to change the picture.
- Constant Evolution: Perhaps the most important feature of man-made events is also the most simple – i.e. that they are intrinsically affected by people and behaviour, with two key consequences. First, some man-made events deliberately maximise the loss – e.g. terrorists will target the most high-value locations but tornados do not actively follow the path of greatest destruction. Secondly, the risk evolves to undermine mitigation attempts – e.g. earthquakes do not increase in severity in response to improved building regulations, but cyber hackers will direct resource into defeating firewall upgrades. This serves to undermine further the data that is available. The warning that “past performance is no guarantee of future results” may be particularly appropriate.