A benign five-year loss period since 9/11 has led to capital pouring into the terrorism market. Simon Low looks at the state of the market today

For many years the standalone terrorism market was a market of last resort for cover excluded from policies in the all-risks property market. It was focused in high risk or volatile areas of the world such as Colombia, Sri Lanka and even the UK. After the World Trade Center disaster, the terrorism market became the only source of political violence property cover, but even this was on a limited basis.

Since 9/11, despite the threat and potential for loss remaining high, the terrorism insurance and reinsurance markets have enjoyed a very benign loss history. As a result, the terrorism market has become a key destination for the large amounts of investment capital looking for alternative opportunities away from the normal markets, lured by the promise of large returns and a historical track record of delivery.

In 2006, the estimated gross global premium income across the terrorism insurance market was in the region of $1bn, with a low loss ratio common to a catastrophe class of business. This has resulted in a soft market softening further, bringing lower prices and wider affordability. It has also resulted in the inclusion of new perils and broader cover.

In this environment, opportunities exist to target specific regions with wordings that meet local needs. A flexible approach and bespoke wordings enable pricing to be matched against the appropriate level of cover. The key is to create a diverse and balanced book rather than just providing one-wording-fits-all type cover.

Developing market

As the standalone terrorism market develops, war cover is increasingly being included. Particularly in the emerging markets, many definitions can leave a gap in cover between sabotage/terrorism and civil war/insurgency.

“The simple fact is that without reinsurance, capacity doesn't exist to provide full value insurance cover in urban locations such as New York, Chicago or London

A lack of case history in many markets can cause issues when local law is used to define these insured perils. For example, in Sri Lanka the Tamil Tigers' (a militant group fighting for an independent Tamil state) actions are often treated as a terrorist loss rather than as a civil war loss, which is arguably more in keeping with their profile and operations.

Other new perils are also being added such as third-party liability, event cancellation including threat cover, and even small sub-limits for nuclear, chemical and biological cover. In the current environment, capacity is likely to remain limited for these additional perils, many of which are currently being underwritten on a net basis. New capital is not likely to enter the market in these areas until reinsurance can provide cover on acceptable terms, or sufficient data is available to allow a more structured and statistically-based approach to be adopted.

Despite the inflows of capital and significant developments in risk assessment and modelling in the terrorism class, capacity constraints remain in some key locations. The simple fact is that without reinsurance, capacity doesn't exist to provide full value insurance cover in urban locations such as New York, Chicago or London.

Partnership between state schemes and private markets must continue if there is any hope of providing enough capacity to cover the full property value in these locations. Protectionism and restrictive practices should not be allowed to impede these goals. Even with the benefits of these partnerships, terms are not likely to be acceptable to everyone. Success for underwriters will depend on using the correct methods to price and control exposures.

Simon Low is senior terrorism, war and political risk underwriter at Ark Syndicate Management.