The report, The Risk of Global Weather Teleconnections, in association with the Met Office, analyses the links between extreme weather events occurring in separate regions of the world that can take place over a range of timescales from days to years (known as teleconnections).
It is an insurer’s responsibility to assess that levels of capital are adequate for all material risks and demonstrate that to the regulators. Many use internal models to show this is the case. For assessment of teleconnections, these internal models are based predominantly on the assumption that extreme weather events in different regions occur independently of each other.
Lloyd’s worked with the Met Office to develop this innovative study, which for the first time analyses the potential links between weather events globally; existing methodologies cover single regions only. This allows reinsurers to use the report to model scenarios across their global portfolios.
In a groundbreaking move, Lloyd’s and the Met Office have made the methodology publicly available to allow debate and review.
Key findings are as follows:
- Met Office research found that the majority of perils are not significantly correlated, but identified nine noteworthy peril-to-peril teleconnections, most of which are negatively correlated;
- Lloyds’ modelling finds that these correlations were not substantial enough to warrant changes to the amount of capital it holds to cover extreme weather claims;
- Even when there is some correlation between weather patterns, it does not necessarily follow that there will be large insurance losses. Extreme weather events may still occur simultaneously even if there is no link between them;
- An assumption of independence for capital-holding purposes is therefore appropriate for the key risks the Lloyd’s market currently insures; and
- The methodology released in the report enables scenario modelling across global portfolios for appropriate region-perils.
To complement the main approach in this paper Lloyd’s also worked with Ed Wheatcroft, an independent statistics consultant based at the Centre for Analysis of Time Series, London School of Economics. His data-driven statistical study considered the assumption of independence from a number of different angles.