Benchmarking

Predyct ERM BenchMarker - Precision Benchmarking of Insurance Company Performance

Predyct ERM BenchMarker is a standalone service which effectively complements ERM

• Benchmarker applies rigorous analytics to each company in the benchmark to generate comparative risk and return metrics
• Larger downside risk probabilities generally result in lower ratings
• BenchMarker utilizes publicly available (at a price) data sources (see chart below)
• ERM BenchMarker comes with its own benchmarking database

Three Companies - Comparisons of Risk and Return

We compare the risk of each company

Observations and Notes for above chart

• The concept of BenchMarking is to see if we can identify performance metrics (by category) that explain the differences in risk and return between these companies. We note, for example, that Company B has the highest underwriting risk by a factor of 2+.
• Observations
• Company A has the strongest ratio of risk to ERM adjusted surplus for its rating level. C is next and B is last
• When all three companies are run at the same rating level, C and B are tied for having the strongest risk to ERM adjusted surplus ratio
• B has significantly more underwriting (new business) risk than the other two companies
• It is not clear that these particular comparisons can explain differences in company performance
• Notes
• Note 1. Rating level refers to the standard that S&P and Moody’s indicate is associated with a rating. For example, S&P indicates that an “A” rated company should have a 99.96% of remaining solvent in any one year.
• Note 2. Each risk category represents the VaR of that particular risk category.
• Note 3. Each risk category has a reference. Reference refers to notional amount of the risk category being referenced. For example, for equity risk the reference is simply the equity portfolio. A reference of 47% means that the company’s equity VaR of $1,182 billion represents 47% of the market value of the equity portfolio.

Company RAROC’s and percentage of capital consumed by business activity and line of business at their respective rating levels

Comparing risk, RAROC, and key risk transfer metrics¹

• Company C has the strongest RAROC followed by B at both rating levels
• A and B are tied for best percentage of risk transfer through reinsurance
• Company A has the strongest ERM adjusted surplus to risk for its rating level followed by Company C
• A has the worst ERM adjusted surplus to risk when the three companies are evaluated at the same rating level
• C and B significantly outperform Company A when subjected to the same rating level

Notes for previous slide

• Note 1. Risk Transfer refers to how much catastrophe risk the company transfers through reinsurance and the impact that the risk transfer has on its RAROC. The relative efficiency of this can be observed by taking the ratio of the before and after ERM adjusted surplus/VaR
• Note 2. ERM adjusted surplus/VaR represents the ratio of the company’s surplus to its VaR risk. The higher the ratio the less risk the company will have. We observe this ratio at the companies own rating and then we subject them all to the same standard to assess their relative performance. We repeat this comparison for RAROC.

Comparing the downside risk of the three companies

• Company C’s high downside risk from initial surplus is due to its large systemic risk embedded in its D&O programs. Company C also has significant downside risk from end of year surplus that we attribute to large catastrophe exposure as well as to poor catastrophe risk transfer as exposed on page 24.
• Company B’s higher underwriting risk from ongoing operations (Loss from year end surplus) is due to the catastrophe nature of its business. The lower downside risk from initial surplus is due to the shorter-tail nature of its business in comparison to C and A.
• Company A is also a high catastrophe exposed company but its large exposure to workers compensation tends to smooth out its underwriting risk while adding some systemic risk to its losses from initial surplus.

Summary Conclusions About Companies A, B, and C

• Company A
• has the most surplus against risk for its rating category of the three companies. When subjected to the same rating standard as B and C, Company A has the least surplus against risk.
• is the least profitable of the three companies for its rating category. This observation is even more pronounced when C and B are measured at the same rating level as Company A
• appears to more efficiently transfer risk though its catastrophe risk reinsurance than the other two companies
• has about 40% of its capital exposed to Homeowners insurance, a negative return business for all three companies
• has a very poor investment performance that ERM identified as being largely attributable to its MBS and ABS securities
• Note: Company A was downgraded from A to A- with a negative outlook about one year after this assessment and due to poor earnings had to cancel a scheduled IPO. This company is also portrayed as Case History B-2 under our Case Histories tab.
• Company B
• could be the company with the greatest opportunity for performance improvement of the three
• has the highest new business risk by a factor of 2+ but also has the highest insurance RAROC. Perhaps the high underwriting risk is justified by the margins it receives. We could identify the LOB’s in which the underwriting risk resides to diagnose and fix if justifiable.
• Identifying the new business risk and reducing B’s exposure to Homeowners could produce very significant gains for B and make it the superior of the three companies.
• Company C
• is the most profitable company at its rating level
• has the best investment performance at twice that of Company A
• appears to have the least effective Cat risk transfer reinsurance. This could be improved to enhance A’s performance. We rate Company C as being the best all around of the three companies.
• Most significant observations
• Homeowners business is a negative return business for all three companies
• 2 years line of business has negative returns for companies A and C and consumes large quantities of capital
• Company A has about half the investment performance of Companies B and C that is largely attributable to its ABS & MBS portfolios
• None of the companies appear to obtain very significant risk transfer from catastrophe reinsurance

The identification and repair of any one of these observations should enable each company to substantially improve economic performance. Not knowing how your company’s risk and return metrics compare to a peer group leave you rudderless with how to efficiently improve results.