September 3rd, 2014

Private Market Involvement in US Terror Risk Market

Posted at 1:00 AM ET

Prior to September 11, 2001, coverage for terrorism-related losses was generally included in standard catastrophe reinsurance agreements without specific charges. However, the USD20 billion loss that reinsurers paid out following the September 11, 2001 attacks prompted companies to quickly exclude terror coverage in standard agreements for most lines of business. Terrorism exclusions therefore became standard in catastrophe reinsurance programs at the January 1, 2002 renewal, seriously diminishing the availability of terrorism reinsurance capacity. Concerned that the lack of terrorism coverage would hit the American economy, the US Congress passed the Terrorism Risk Insurance Act (TRIA) into law in November 2002.

Since its inception, TRIA has been reauthorized twice in the form of the Terrorism Risk Insurance Extension Act (TRIEA) in 2005 and Terrorism Risk Insurance Program Reauthorization Act (TRIPRA) in 2007 (see table below). During this time, the Act has required the private risk market to assume a larger share of the program by increasing deductible and co-share requirements.

terrorism-tab-web-31

The private market’s ability and willingness to cover terrorism risks has therefore increased since 2002 because of the federal program. In fact, terrorism capacity has increased over the last year as several factors converged at the January 1, 2014 renewal to culminate in additional (re)insurance terrorism coverage. The inflow of capacity from alternative sources was an important development, prompting traditional reinsurers to become more supportive of terrorism reinsurance opportunities for traditional property catastrophe programs. The scheduled expiration of TRIPRA also resulted in increased capacity as a number of insurers initiated or enhanced trading relationships with reinsurers that offered terrorism reinsurance solutions in an effort to anticipate and mitigate non-renewal. The prevailing soft market pricing for catastrophe coverages also had an impact, even driving pricing down by as much as 10 percent for workers compensation programs that included terrorism coverage at January 1, 2014. However, in the event of TRIPRA not being renewed, capacity required and sought from the private market would rise significantly and likely result in increased prices while also making it difficult to obtain the appropriate amount of coverage.

Warnings to insurers from rating agencies have also helped drive an increase in terrorism reinsurance. In late 2012, rating agencies warned insurers that an overreliance on TRIPRA in their risk management strategy would cause negative rating pressure. Companies that took the warning seriously were motivated to improve datasets and refine aggregations with the overriding objective of reducing their probable maximum losses (PML) from large individual accumulations. These companies were ultimately rewarded with lower reinsurance pricing as their new aggregation profile and datasets assisted in more accurately determining required reinsurance capacity. Any significant change to or non-renewal of TRIPRA will see all the main rating agencies reassess the required capital needed to support writings. A number of rating downgrade warnings would likely follow as a result.

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