Predicting the unthinkable

Raj Singh, chief risk officer at Swiss Re, talks to Alexander Campbell

Supranationals and other international organisations are starting to look at the catastrophe risk management policies of individual countries. For Raj Singh, chief risk officer at Swiss Re, this is a good sign.

“We had our first conversation with the International Monetary Fund (IMF) recently. If the IMF and World Bank would look at this as part of their normal country assessment process, if they asked ‘how are you covered for natural disasters?’, this would drive hugely different behaviour. And that’s where the informal dialogue has been; they would like to make it part of their normal programmes,” he says.

Pushing the idea of catastrophe insurance on a national level has been a slow process – governments tend to have a longer decision cycle than private-sector customers, periodically interrupted by elections or other changes of government, says Singh. “You need to have a political consensus, but bureaucrats survive, so you also need a sponsor in the bureaucracy, the finance secretariat or the disaster management secretariat, who will feel this is useful and make it part of a permanent plan. That’s what you have to ensure – that you have a sponsor on the political and the bureaucratic side.”

The financial crisis, the ensuing recession and efforts to support the banking system have put many countries under severe fiscal pressure. But, despite this, Singh believes the crisis will help move the catastrophe insurance business forward.

“The crisis means people don’t want to have another sudden shock to the budget. It could be an extreme shock in many cases: the Mexicans completely renewed their catastrophe facility because there would be no way for them to deal with having a fiscal crisis and another earthquake. Also, poorer countries know aid may not flow in as quickly after a disaster because the donor countries are also struggling.”

Natural catastrophe insurance policies need to be structured differently from conventional insurance to reduce the risk of moral hazard, he continues. Insurance against storm or earthquake in the Caribbean or drought in Africa and India are typically based on a parametric trigger – wind strength or rainfall – rather than the value of the damage done, making the assessment and payout process quicker and easier and removing the temptation to exaggerate or even exacerbate the losses.

As well as pushing the natural catastrophe business forward, Singh says the financial crisis has led to changes within Swiss Re too. Significantly, it has overhauled its risk measurement and treasury functions since 2007. “The main focus is on managing liquidity effects in the market, which was something we had never seen before,” he admits. “It’s a more cautious approach to the markets. There’s a more diverse portfolio and less tolerance for certain illiquid asset classes.”

The insurer has improved its liquidity position over the course of 2009, increasing its pool of liquid assets from Sfr17.3 billion ($16.2 billion) to Sfr22.6 billion at the end of the year. This represents a sharp rise from the Sfr9.6 billion in liquid assets at the end of 2007. It has also strengthened the quality of the pool of assets, decreasing the proportion of agency and municipal bonds from 22% to 6% and increasing the amount of Swiss and Group of Seven bonds and reverse repos from 31% to 56%. 

More attention is also being paid to stress testing. The company now uses a greater variation of scenarios, with stronger shocks. “We are looking at many more unthinkable scenarios,” says Singh.