Ready for the storm

Lloyd’s plays a crucial role in helping businesses limit their bill from windstorms, insuring everything from oilrigs to hotels. But how does Lloyd’s ensure these devastating catastrophes don’t hurt it too much? lloyd’s.com caught up with Tom Bolt, Lloyd’s Performance Management Director, to find out and to hear why Lloyd’s is well prepared should the wind blow this year.

Lloyd’s helps clients manage their hurricane risks. But how does Lloyd’s manage its own hurricane exposure?
We have two tools. One is the Realistic Disaster Scenarios, which proved to be very effective in 2005 when Katrina, Rita and Wilma hit. These ask the question what would happen if a major hurricane hit Florida, the Gulf of Mexico or the Atlantic Seaboard. These allow syndicates to manage their potential exposure to these events and they help us set a figure for a hurricane loss that each business can easily absorb.

From those responses the Exposure Management Team then calculates the market’s overall exposure to a big hurricane, which allows us to work out how we would stand up to a very large catastrophe.

We also have a second tool, called Exceedence Probability (EP) Curve. These help syndicates to understand their entire hurricane profile including storm losses so large that they are forecast to happen less than once in 250 years. 

Does Lloyd’s have a very defined appetite for hurricane risk?
Every insurance enterprise should set a number that it is willing to lose before that event occurs. At Lloyd’s we’ve done that and that figure is a percentage of the Funds at Lloyd’s; it doesn’t even include the Central Fund – that’s an additional buffer.

I have a responsibility to the rest of the market to ensure we only write so much catastrophe risk. I don’t want to put more capital at risk from catastrophes than would be viewed as appropriate by the rating agencies, even though the risks may be incredibly well priced. Because if the agencies lower our ratings then I have ruined the franchise for everyone in the market, including those syndicates that don’t write cat business.

At the moment our cat exposure is nowhere near that ‘willing to lose’ number. When my team compared Lloyd’s overall cat exposure in January 2010 there was very little change compared to January 09. In fact, the market’s liability to Florida hurricanes actually went down slightly.

I have agreed with the Franchise Board that our ‘willing to lose’ number is actually a range rather than a specific figure. That’s because I think the amount we’re willing to lose from a catastrophe should change depending on where we are in the cycle. The figure should be smaller when we’re in a soft market, whereas if we’re in a harder market then our loss-absorbing capacity is greater, so we can allow ourselves to potentially take up more funds at Lloyd’s.

Having a range is very useful because it gives us the opportunity to take advantage of opportunities that may arise after a big catastrophe has changed the complexion of the market.

How does Lloyd’s ensure it has the funds to pay for a big hurricane?
Lloyd’s has quite a lot of liquidity. Some of that is tied up in the Premium Trust Funds, but the bulk of that money is situated where we have the biggest exposure – in the US. So this good liquidity, along with our efforts to manage the market’s expected aggregate exposure to a big windstorm to a fraction of the funds at Lloyd’s, means we don’t think we’ll have any problems with meeting payments for a big catastrophe. 

We’re also less sensitive to the dollar-sterling exchange rate than we were previously, because syndicates are now putting up their funds at Lloyd’s in pounds and dollars, rather than just pounds.

How much notice do you take of the hurricane season predictions?
We look at them, but we prefer that they don’t colour our bets. We try to manage our overall aggregate exposures and an easy way of doing that is asking how a syndicate did in 2005 – which saw a number of pretty big storms – and to find out what its exposures are now compared to then.

We want to know what a syndicate’s exposure is to a very big hurricane, but we also want to know how they would fare if there were a string of fairly big storms. We do what we call an ‘RDS lite’ with syndicates during the summer so we know if there have been any big changes in their cat exposure since the start of the year and which prevents us from getting too out of step with what the market is doing.

Is Lloyd’s well set for the hurricane season?
Yes I think so. Although there have already been quite a few big catastrophes this year, such as the Chile earthquake and Windstorm Xynthia, Lloyd’s still has quite a bit of its cat budget left.

But we’ve already used up a lot more this year than we had in 2009, which was a very quiet year for catastrophes. With that being the case, I would be very surprised if underwriters who were looking at hurricane-exposed risks saw room to cut their prices at the July 1 renewals.  To increase your market share at a time when prices are lower than they were last year seems a little counter-intuitive to me.