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Bob Fox, ACAS, MAAA Managing Director, Catastrophe Actuarial Aon Benfield June 6, 2013

State of the Reinsurance Market and Implications for Primary Insurers Southern California Casualty Actuarial Club. Bob Fox, ACAS, MAAA Managing Director, Catastrophe Actuarial Aon Benfield June 6, 2013. Agenda Slide. Section 1 State of the Reinsurance Market

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Bob Fox, ACAS, MAAA Managing Director, Catastrophe Actuarial Aon Benfield June 6, 2013

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  1. State of the Reinsurance Market and Implications for Primary InsurersSouthern California Casualty Actuarial Club Bob Fox, ACAS, MAAAManaging Director, Catastrophe ActuarialAon BenfieldJune 6, 2013

  2. Agenda Slide Section 1 State of the Reinsurance Market Section 2 Implications for the Property Insurance Market

  3. Section 1 State of the Reinsurance Market

  4. ERM

  5. ERM

  6. Reinsurance Premiums by Line Source: SNL

  7. Global Catastrophe Losses by Year • 2012 very similar to average of 10 prior years • Five years of severe weather has people asking if this is the “new normal” Irene Joplin Tuscaloosa Katrina Rita Wilma Thai Floods Tohoku Christchurch $48.4b $47.4b Charlie Frances Ivan Jeanne Ike Source: Aon Benfield Analytics

  8. 2012 Top 10 Global Insured Loss Events • Drought/heatwave losses highlight the growth of Crop/Hail Insurance 1 Subject to change as loss estimates are further developed 2 Includes losses sustained by private insurers and government-sponsored programs

  9. Super Storm Sandy – Overview • Largest diameter: 945 miles • Previous record: 920 miles, 2010’s Hurricane Igor • Largest wave in New York Harbor: 32.5 feet • Previous record: 25.0 feet, 2011’s Hurricane Irene • Second NE event in two years for which hurricane deductibles did not apply • Deductible language variable across companies • Wind speed, hurricane category, etc. • Events do not drive tail, but generally not modeled correctly • “2/3 of all New York City homes damaged by Superstorm Sandy were outside of FEMA’s existing 100-year flood zone.” • Wall Street Journal • Estimate flood return period: 90 years • “With respect to storm surge, we think the [NOAA] SLOSH model generally performed well, and we calibrated our US storm surge expectations from that.” • Kean Driscoll, CEO, Validus Re

  10. Super Storm Sandy – US Insurance Loss Estimates PCS • Claims: ~ 1,152,000 • Insured Loss Estimate: $18.75 billion • Personal Lines Claims: $6.997 billion (average claim: $6,558) • Commercial Lines Claims: $9.024 billion (average claim: $44,563) • Automobile Lines Claims: $2.729 billion (average claim: $10,894) Impact Forecasting • $16 to $22 billion • 80 to 90 Year Return Period RMS • $20 to $25 billion • ~90 Year Return Period (NY, NJ) AIR • $16 to $22 billion • ~85 Year Return Period EQECAT • $10 to $20 billion • 70 to 90 Year Return Period Industry wind event return period: 5-10 years

  11. Hurricane Sandy Impact on Shareholder Funds • Average impact of Hurricane Sandy reported to date is 4.9% **Alleghany SHF as of March 31, 2012 to incorporate Transatlantic acquisition Mid-points used where a range of loss was disclosed Chart represents most recent disclosure Source: Individual company reports, Aon Benfield Analytics

  12. ABA Historical Reinsurer Combined Ratio • 2012 ABA showed improved combined ratio of 92.6% resulting from a 60% decline in total catastrophe losses Source: Individual company reports, Aon Benfield Analytics

  13. Reinsurer Capital (USD Billions) by Year • Year end 2012 reinsurer capital increased 11% over year end 2011 • Reinsurer capital increased by USD5B throughout Q4 2012; a slower pace than earlier in the year • Supply continues to exceed demand in all global regions Source: Individual Company Reports, Aon Benfield Analytics

  14. Cat Bond Issuance by Quarter • Despite a decrease in Q4 2012 issuances from the prior two years, 2012 issuances reached an all time high of $6.3b based on the increased issuance activity in the first half of 2012 Source: Aon Benfield Securities, Inc.

  15. ■2012 ■2012 ■2011 ■2011 2013 ILS Market ■ 2010 ■ 2010 ■ 2009 ■ 2009 As of May 31, 2013 • New inflows of capital continue to outstrip supply, and spreads have decreased to historic lows • US multi-peril spreads are down 35% - 45% from 2012 • Non-US peril spreads are down 15% - 20% from 2015 • State Farm's Merna Re IV, covering New Madrid earthquake, was issued with the lowest spread for a cat bond since 2008 • Allstate’s Sanders Re, providing US multi-peril coverage on index basis, priced blew market guidance and with Sharpe ratios at new lows • Twelve property cat bonds with a total of US$ 3.49 billion limit and one health bond with US$ 0.15 billion limit have closed US Multi-Peril Spreads 36% 40% 45% Current Trendline Non-US Peril Spreads 19% 18% Current Trendline 18% Source: Aon Benfield Securities' RLS Indicative Price Sheets

  16. Insurance and Capital Markets are Converging • Insurance and capital markets are converging – global capital is growing ($ trillions) and looking for returns in a low interest rate environment Risk adjusted return on invested assets Risk per unit of capital T I M E Insurers & Reinsurers Pensions, Life Insurers, Endowments & Family Trusts Seeking 1000 to 1600bps on decreasing leverage Seeking 600 to 800bps on diversifying products as yields on other credit related asset classes press lower Convergence • All amidst increasing insurer capabilities, increasing insurer demands, pricing pressure on brokers, declining demand for traditional reinsurance…

  17. Non-Traditional Capital is Massive and Has Begun to Enter our Space Global capital supply figures Highly Preliminary • Other, unquantified large pools of capital also exist • High net worth individuals • Retail investors • Hedge funds • Mutual funds • Exchange traded funds • Trusts • Other Private Equity ~$3T Sovereign wealth funds~$5T Insurance Capital ~$3.4T Non-lifeCapital ~$1.9T Reins. Capital ~$505B Pension assets of 13 countries~$30T Source: Swiss Re, Bain, Towers Watson, Aon Benfield Analytics

  18. Assuming Risk Managing Dynamic Capital Commercial Pension Funds Insurer Specialty SPVs, Life Insurers Insurer Sidecars Select Form and Risks relationships Managed Personal High Net Worth Modern Funds Lines Insurer Individuals Understand a Global very wide range Reinsurers of risks Multiple Lines Hedge Funds Insurer Utilize Select from appropriate those risks Lloyd’s Insurer Debt & capital sources suitable Syndicate Mezzanine Investors for risks business assumed Emerging Retrocession Manage cycles Market Insurer Reinsurers and events Managing Dynamic Portfolio of Risks Life & Annuity Assumed Insurer All Net Equity Risks Investors Health Insurer Modern Global Reinsurers and the Debt Challenge

  19. Reinsurance Supply Summary

  20. Reinsurance Supply and Demand P demand supply P0 P1 Q Q0 Q1

  21. What About Demand? • Insurer capital increased 10% from year end 2011 to year end 2012 • Growth occurred due to lower catastrophe losses and higher primary premiums Source: Individual Company Reports, Aon Benfield Analytics

  22. Reinsurance Demand Summary

  23. Reinsurance Supply and Demand P demand supply P0 P1 Q Q1 Q0

  24. Section 2 Implications for the Primary Insurance Market

  25. History of Homeowners Profitability

  26. History of Homeowners Profitability

  27. History of Homeowners Ratemaking

  28. Traditional Profit Model

  29. Profit Model with Cat Risk Margin

  30. Cost of Capital

  31. California Example – Cost of Capital • Fictitious California-only writer • Based on AM Best Stressed BCAR Model • Fire Following PML estimate from RMS RiskLink 13.0 • Assumes reinsurance from 10-year to 100-year PML

  32. California Example – Total Cost of Catastrophes • Lesson: Don’t let regulatory restrictions dictate reinsurance purchase decisions • How would this exhibit look for a national insurer with the same California exposure?

  33. California Example – Total Cost of Catastrophes • Lesson: Don’t let regulatory restrictions dictate reinsurance purchase decisions • How would this exhibit look for a national insurer with the same California exposure? • AAL unchanged • Lower reinsurance cost (California is diversifying risk to reinsurers) • Lower capital cost (diversification benefit within company) • Most of reinsurance and capital cost recoverable in rates

  34. Potential Unintended Consequences of Regulatory Restrictions

  35. Potential Unintended Consequences of Regulatory Restrictions

  36. Potential Unintended Consequences of Regulatory Restrictions

  37. Potential Unintended Consequences of Regulatory Restrictions

  38. Potential Unintended Consequences of Regulatory Restrictions

  39. Potential Unintended Consequences of Regulatory Restrictions

  40. Potential Unintended Consequences of Regulatory Restrictions

  41. Potential Unintended Consequences of Regulatory Restrictions

  42. State Summary – California Proprietary & Confidential

  43. Questions?

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