Property and Casualty Property and Casualty Reinsurance Issues from a Reinsurance Issues from a

Midwestern Buyer’s PerspectiveMidwestern Buyer’s Perspective

February 9, 2004February 9, 2004

Marty Orth, ACAS, MAAAMarty Orth, ACAS, MAAA

Farm Bureau Financial ServicesFarm Bureau Financial ServicesFarm Bureau Mutual Insurance CompanyFarm Bureau Mutual Insurance Company

Vice President Research and DevelopmentVice President Research and Development

Speech StyleSpeech Style

There are many issuesThere are many issues

Who can predict the next major issue?Who can predict the next major issue?

Therefore, this is an interactive speechTherefore, this is an interactive speech

Your participation appreciatedYour participation appreciated

Let’s take a samplingLet’s take a sampling

What is your Reinsurance Knowledge?What is your Reinsurance Knowledge?1.1. Never Involved…know very littleNever Involved…know very little

2.2. Work with infrequentlyWork with infrequently

3.3. Part of current responsibilitiesPart of current responsibilities

4.4. Primary responsibilityPrimary responsibility

Participation and DiscussionParticipation and Discussion

What do you think the reinsurance issues What do you think the reinsurance issues are in 2004?are in 2004?

What do you think the long-term What do you think the long-term reinsurance issues will be over the next 10 reinsurance issues will be over the next 10 years?years?

LESSON 1: Reinsurance PurposesLESSON 1: Reinsurance Purposes

Limit liability of specific risksLimit liability of specific risks

Stabilize loss experienceStabilize loss experience

Protect against catastrophesProtect against catastrophes

Increase capacityIncrease capacity

OtherOther– Entry into a new lineEntry into a new line– Cut off exposure on an existing lineCut off exposure on an existing line– Gain reinsurer’s expertiseGain reinsurer’s expertise

LESSON 2: Reinsurance Does LESSON 2: Reinsurance Does NOTNOT

Change the inherent nature of the riskChange the inherent nature of the risk

Make a bad risk insurableMake a bad risk insurable

Make an exposure more predictable or Make an exposure more predictable or desirabledesirable

Alter the total risk exposureAlter the total risk exposure

Types of ReinsuranceTypes of Reinsurance

General TypesGeneral TypesFacultativeFacultativeTreatyTreatyFinancialFinancial

AlsoAlsoProportional or Pro rataProportional or Pro rataExcess reinsurance or non-proportionalExcess reinsurance or non-proportional

Reinsurance ExamplesReinsurance Examples

FACFAC

ExcessExcess– Property Per Risk Property Per Risk – Excess Per OccurrenceExcess Per Occurrence

Property CatastropheProperty Catastrophe

Aggregate Excess of LossAggregate Excess of Loss

Funded ProgramsFunded Programs

LPTLPT

Property Facultative Obligatory Reinsurance Treaty (FOT)

Characteristics

Capacity to write larger risksCapacity to write larger risks

Stability by limiting exposure on an individual riskStability by limiting exposure on an individual risk

Degree of catastrophe protection from major loss on Degree of catastrophe protection from major loss on an individual riskan individual risk

Vehicle to protect other reinsurance resultsVehicle to protect other reinsurance results

Limits ceding company’s exposure on risks not Limits ceding company’s exposure on risks not normally written by the companynormally written by the company

Excess of LossExcess of Loss

CombinationPer Risk Excess and Surplus Treaty

Second SurplusShare Layer

$7,500,000

First SurplusShare Layer

$2,000,000 Per Risk Excess

$400,000 xs $100,000

Retention

$40,000,000

$10,000,000

$ 2,500,000

$ 500,000

$ 100,000

Third SurplusShare Layer

$30,000,000

Property Surplus ShareExample

Surplus Share ProgramSurplus Share ProgramExampleExample

Risk Size = $1,000,000Risk Size = $1,000,000

Retention = $200,000Retention = $200,000

Company retains 20%Company retains 20%

Fundamentals of ReinsuranceFundamentals of Reinsurance

WWW.REINSURANCE.ORGWWW.REINSURANCE.ORG

OverviewOverview

Current Market OverviewCurrent Market Overview

Reinsurance IssuesReinsurance Issues

Midwestern Buyer’s ViewMidwestern Buyer’s View

2001 Combined Ratios2001 Combined Ratios

0%

50%

100%

150%

200%

250%

300%

2001

American ReConverium ReEmployers ReGeneral ReSwiss ReXL Re

Source: Reinsurance Association of America – Reinsurance Underwriting Report

2002 Combined Ratios2002 Combined Ratios

0%

50%

100%

150%

200%

250%

300%

2002

American ReConverium ReEmployers ReGeneral ReSwiss ReXL Re

Source: Reinsurance Association of America – Reinsurance Underwriting Report

2003 9-Month Combined Ratios2003 9-Month Combined Ratios

0%

50%

100%

150%

200%

250%

300%

2003

American ReConverium ReEmployers ReGeneral ReSwiss ReXL Re

Source: Reinsurance Association of America – Reinsurance Underwriting Report

Historical Combined RatiosHistorical Combined Ratios

0%20%40%60%80%

100%120%140%160%180%200%

1998 1999 2000 2001 2002 2003*

Source: Reinsurance Association of America – Reinsurance Underwriting Report

RAA Industry Results – U.S. RAA Industry Results – U.S. ReinsurersReinsurers

$0

$5

$10

$15

$20

$25

$30

$35

$40

$45

$50

Industry Capacity (billions)

Gross WrittenPremiumsPolicyholder'sSurplus

Source: Reinsurance Association of America – Reinsurance Underwriting Report

Reinsurance Bits and PiecesReinsurance Bits and Pieces

Reinsurance outlookReinsurance outlook

Reserve Charge Reserve Charge ExampleExample YIELD

Reinsurance OutlookReinsurance Outlook

Continuous reserve development?Continuous reserve development?

Financial Rating Issues CapitalizationFinancial Rating Issues Capitalization– Is Bermuda overcapitalized?Is Bermuda overcapitalized?– Will there be additional capital entering?Will there be additional capital entering?

Continued reinsurer exits and Continued reinsurer exits and consolidations?consolidations?

XL Capital Ltd – 2004 ExampleXL Capital Ltd – 2004 Example

January 13January 13– XL Capital Ltd Completes Previously XL Capital Ltd Completes Previously

Announced Claims Audit Review and Year Announced Claims Audit Review and Year End Reserve ReviewEnd Reserve Review

Expects fourth quarter charge of $647 million after Expects fourth quarter charge of $647 million after taxestaxes

– Majority due to adverse development in Company’s Majority due to adverse development in Company’s North American reinsurance operations for casualty North American reinsurance operations for casualty business written during 1997-2001 underwriting yearsbusiness written during 1997-2001 underwriting years

Company to raise at least $750 million of new Company to raise at least $750 million of new capitalcapital

XL Capital Ltd – 2004 ExampleXL Capital Ltd – 2004 Example

January 14January 14– A.M. BestA.M. Best

Downgraded all debt ratings of XL Capital Ltd. Downgraded all debt ratings of XL Capital Ltd. (Cayman Islands)(Cayman Islands)

Placed ratings of A+ (superior) under review with Placed ratings of A+ (superior) under review with negative outlook for XL Capital Group (Hamilton, negative outlook for XL Capital Group (Hamilton, Bermuda) and its affiliated companiesBermuda) and its affiliated companies

– S&PS&PCuts XL Capital Rating to AA- vs. AACuts XL Capital Rating to AA- vs. AA

XL Capital Ltd – 2004 ExampleXL Capital Ltd – 2004 Example

January 22January 22– XL Capital Ltd Announces Retirement Of XL Capital Ltd Announces Retirement Of

Insurance Operations Chief ExecutiveInsurance Operations Chief Executive

XL Capital Ltd – 2004 ExampleXL Capital Ltd – 2004 Example

January 22January 22– XL Capital Ltd Announces Management XL Capital Ltd Announces Management

Changes Within Its Global Reinsurance Changes Within Its Global Reinsurance OperationsOperations

Special Termination LanguageSpecial Termination Language

Special Termination Special Termination Language or Language or Downgrading ClausesDowngrading Clauses– Don’t Rely on itDon’t Rely on it– Do the Due DiligenceDo the Due Diligence– Reinsurers beginning Reinsurers beginning

to resistto resist– Could allow run on Could allow run on

the bank due to return the bank due to return premiumspremiums

Legacy IssuesLegacy Issues

MoldMold

Construction DefectsConstruction Defects

AsbestosAsbestos

EnvironmentalEnvironmental

9/119/11

Professional Liability/ Professional Liability/ Med MalMed Mal

Others???Others???

New / Evolving IssuesNew / Evolving Issues

TerrorismTerrorism

Mad CowMad Cow

GMO’sGMO’s

ObesityObesity

SARS?SARS?

Soft Market?Soft Market?

Others?Others?

Terrorism Risk Insurance Act Terrorism Risk Insurance Act (TRIA) Update(TRIA) Update

A.M. Best SRQA.M. Best SRQ

What are your potential What are your potential targets?targets?

TRIA Flow ChartTRIA Flow Chart

UpdateUpdate

A. M. Best SRQA. M. Best SRQ

VI. Terrorism SectionVI. Terrorism Section– 41. Terrorism Exposure Management41. Terrorism Exposure Management– 42. Largest Single Insurance “At Risk”42. Largest Single Insurance “At Risk”– 43. Largest Single Insured TIV43. Largest Single Insured TIV– 44. Zonal Aggregate Exposure44. Zonal Aggregate Exposure

TRIA UpdateTRIA Update

AIR landmark database includes over 300,000 Potential TargetsAIR landmark database includes over 300,000 Potential Targets

Terrorism Risk Insurance Act of 2002Coverage Flowchart

LOSS OCCURS

Is it a Certified Act?

Yes

Terrorism Risk Insurance Act of 2002 sunsets on December 31, 2005. The Act only applies to Commercial insurance which includes Farmowners. Department of Treasury is sole authority on terrorism act “certification”.

Not Covered by PolicyCovered by Policy

Pay & Submit to Treasury

No

Does underlying policy have a Terrorism Exclusion?

Yes

Deny Claim

No

Pay loss – Collect against the Terrorists

Deny Claim

TRIA UpdateTRIA Update

Treasury surveyTreasury survey– How is the industry handlingHow is the industry handling

Will the industry have enough capacity to handle Will the industry have enough capacity to handle itself?itself?

Will TRIA be allowed to sunset?Will TRIA be allowed to sunset?

Mad CowMad Cow

What is a Mad CowWhat is a Mad Cow– Bovine Spongiform Bovine Spongiform

EncephalopathyEncephalopathy

What does this have What does this have to do with to do with reinsurance?reinsurance?

Mad CowMad Cow

USDA’s Risk Management USDA’s Risk Management Agency (RMA)Agency (RMA)– Offers Livestock Risk ProtectionOffers Livestock Risk Protection

Market-based price protection policyMarket-based price protection policy

Mad Cow Disease found in Mad Cow Disease found in Washington StateWashington StateResultsResults– Sold more policies on that day as Sold more policies on that day as

compared to life-to-date of program compared to life-to-date of program

GMO’sGMO’s

What are they?What are they?– Genetically Modified Genetically Modified

OrganismsOrganisms

IssuesIssues– Potential Liability?Potential Liability?

Cross pollinationCross pollinationLoss of market valueLoss of market valueHealthHealthOtherOther

– Reinsurance Issues?Reinsurance Issues?

Hard MarketHard Market

Is the Primary market softeningIs the Primary market softening

What are the Reinsurance IssuesWhat are the Reinsurance Issues

Best Rating IssuesBest Rating Issues

So what’s a company to do?So what’s a company to do?

Midwestern Issues and ViewMidwestern Issues and View

Regional isolationRegional isolation

Cat PlacementCat Placement– ModelsModels– Data IssuesData Issues– PricingPricing

Future Events / IssuesFuture Events / Issues

FBMFBM

Regional IsolationRegional Isolation

It’s what you don’t seeIt’s what you don’t see– EarthquakeEarthquake– CoastalCoastal

Midwestern IssuesMidwestern Issues– It’s all about the CATIt’s all about the CAT

Midwestern Cat DefinitionMidwestern Cat Definition

Event occurs over Event occurs over a 72 hour period: a 72 hour period: Wind/hail etcWind/hail etc

Cat Model IssuesCat Model Issues

ModelsModels– AIR: straight AIR: straight

wind/tornado/hailwind/tornado/hail– RMS: no straight windRMS: no straight wind– EQE: no tornado/hailEQE: no tornado/hail

Data IssuesData IssuesWhere is the property Where is the property locatedlocated– County, zip, policyCounty, zip, policy

Other IssuesOther Issues

Use of Reinsurance BrokersUse of Reinsurance Brokers

ProsPros– Expertise and serviceExpertise and service– Modeling and pricingModeling and pricing– An intermediaryAn intermediary

ConsCons– Access to directsAccess to directs

Cat PlacementCat Placement

Number one questions askedNumber one questions asked– DeductiblesDeductibles

Number two questions askedNumber two questions asked– TIVTIV

Open DiscussionOpen Discussion

What are the reinsurance issues to watch What are the reinsurance issues to watch out for in 2004 and beyond?out for in 2004 and beyond?

SummarySummary

Understand your exposuresUnderstand your exposures

Do your homeworkDo your homework

Look for long-term relationshipsLook for long-term relationships

Seek advice of experts if neededSeek advice of experts if needed– Contract attorneysContract attorneys– ReinsurersReinsurers– BrokersBrokers

Monitor Results…Monitor Results…Monitor Results…Monitor Results…

Contact InformationContact Information

Marty OrthMarty Orth

morth@fbfs.commorth@fbfs.com

(515) 226-6295(515) 226-6295