RMS tool correlates magnitude and expected loss for cat bonds, ILWs and derivatives

A new parametric index for estimating insured industry losses from US earthquakes has been launched by Risk Management Solutions (RMS), complementing its existing indices for US hurricanes and European windstorms.

Paradex US Earthquake combines ground shaking data from US Geological Survey (USGS) ShakeMaps with industry exposure data to calculate insured loss estimates, which can be used to structure and monitor catastrophe bonds, industry loss warranties, and derivative contracts.

Paradex provides insured loss estimates by postal code and line of business for all 50 US states and includes damage from ground shaking, fire following earthquake, and sprinkler leakage. These granular insured loss estimates help issuers to minimise their basis risk -- the risk that a security would not sufficiently cover actual losses from an event -- by tailoring the index to match their exposures and lines of business.

The new index enables catastrophe risk to be transferred to the capital markets quickly and transparently, with contracts settling in 40 business days or less following an event -- compared to up to a year for indices that involve polling the industry -- giving insurers and reinsurers quicker access to the capital needed to pay claims. Investors benefit from standardised insurance-linked security (ILS) structures that are based purely on hazard data; they do not need a comprehensive understanding of the insurance claims process to assess the attractiveness of an investment structured using Paradex.

Peter Nakada, managing director of RiskMarkets, the ILS team at RMS, said: “Paradex offers insurers and reinsurers a straightforward way to transfer earthquake risk based on location-specific ground motion. To date, this approach has only been available through complex parametric cat bonds; now Paradex makes it accessible to simpler structures such as Industry Loss Warranties.”

The Paradex Europe Windstorm index was used in December to structure Atlas VI Capital Ltd to provide SCOR with €75m of protection against European windstorms as well as Japanese earthquakes.