John Major, Senior Vice President, Instrat
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Guy Carpenter’s Firm-Value Risk Modeling (FVRM) approach, described in two previous GCCapitalIdeas.com articles, takes Dynamic Financial Analysis (DFA) a step beyond existing techniques by modeling the impact of risk on the shareholder value of the (re)insurer.  This puts the two dimensions of DFA - risk and reward - on the same scale: value. The output of an FVRM analysis is the M-curve, that relates the (re)insurer’s book value (surplus) to its market (shareholder) value. When the (re)insurer is in financial distress, with insufficient surplus to cover its risks adequately, its market value reflects the possibility of imminent liquidation, and will typically be not much greater than book value. On the other hand, when the (re)insurer holds a generous capital buffer, its market value reflects a going-concern potential to generate a stream of profits and dividends, and will include some franchise value above and beyond its book value. There is a point, however, where the (re)insurer has so much capital that adding more does nothing to enhance its franchise value.

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Financial Intelligence Team
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The link between a company’s earnings and its share price is intuitive and well documented. Equally logical, although far less studied, is the correlation between the volatility of earnings and share price. The favorable impact of stable earnings on market valuation is intuitive considering market capitalization represents a view of future discounted cash flows and unexpected earnings volatility reduces the predictability of those cash flows.

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John Major, ASA, MAAA, Senior Vice President, Instrat
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This paper, a sequel to chapter 2.6 of Guy Carpenter’s 2007 book, Enterprise Risk Analysis, illustrates some of the complex interactions between risk, capital strategy, and the optimal usage of risk transfer; and how critical decisions can be based on impact to (re)insurer value using Guy Carpenter’s Firm-Value Risk Model (FVRM) methodology.

Download The Firm-Value Risk Model >>

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John Major, Senior Vice President, Instrat
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How do you put a price on risk management? In the early days of finance theory (1950’s), the value of risk management was questioned—unless, of course, it was costless. The nuances of a more complex business environment have rendered this position untenable, but we still struggle to quantify the benefits of risk management, especially in the (re)insurance industry. Thus, the fundamental activity of risk-bearers has not been measurable, leaving a cloud of ambiguity in the middle of every carrier’s operation.

This changes now.

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