Friday, February 22, 2013

Catastrophe Modelers' Secret Sauce is in the Science

There is a big world out there filled with scientific information.  Gobs and gobs of information.  Some of it is contradicting because the science advanced or because scientists disagree.  This is normal.  People disagree and discuss before arriving at an agreement.  But when you pick and choose your information carefully, you can come up with your own unique perspective.  Your own, special sauce.  

Public Model
When it comes to catastrophe models submitted to the Florida Commission on Hurricane Loss Projection Methodology the main requirement to establish the scientific soundness of a model is its use of the peer-reviewed literature.  The literature however, represents more a stream of consciousness by the world's scientists then it does any sort of agreement on the state of scientific knowledge.  And while the Commission represents a body of experts intended to review and approve the models, the Commission's approval is a consensus on the model's satisfactory meeting of standards- not the model's reflection of scientific consensus.  So, modelers are able to pick and choose their science from an ongoing discussion in the literature to come up with their own take on the situation.   

Catastrophe modeling is a very big business and a modeling company's product is its unique perspective on risk.  The goal is to develop a perspective on risk that they believe best suits their clients needs and desires.  An analogy is Pepsi and Coca-Cola.  Both sell soda.  Both sell a similar line of products. But their personal take on soda is their unique product and is fiercely guarded.  Consumers have their taste preferences and allegiances.     

Scattered throughout this post are Wordles or "word clouds."  They are constructed from the authors last names listed in the meteorological reference section in the submissions to the Commission under 2009 standard G-1.  Three models were analysed.  AIR and RMS which are the insurance industry's dominant modeling companies and the Public Model which is kinda, sorta, more or less run by the state of Florida.  Perhaps better stated, the Public Model has the state of Florida as its main client.  There is some overlap of authors, although I did not check to see if the the same work by each author is represented.  But really, the word clouds are different and depict the different opinions on the "pertinent" science needed to construct a model.  

Also of note, is that the total number of references varied quite a bit by company.  The Public Model developed with public funds as a means of creating a transparent view into catastrophe modeling (amongst other things) lists 96 references.  The two private companies list far fewer, AIR with 52 references and RMS with 29 .  The science after all, is the secret sauce.    

2009 Standard G-1: Scope of the Computer Model and Its Implementation.
#4 Provide a comprehensive list of complete references pertinent to the submission by Standard grouping, according to professional citation standards.

Tuesday, February 5, 2013

You're Invited to the Insurance Industry Pity Party!

I don't know if this is a recent thing in the insurance industry or entrenched lore centuries old, but insurers appear to having an ongoing pitiful pity party.  This has to be the grandest of tantrums that I have seen grown adults throw.  And so well organized!  It's really quite silly and unproductive.  

The party begins when insurers feel that their carefully calculated risk is rejected by society.  Then insurers begin to lament, "People do not understand the value of insurance! We are so misunderstood :-(. "  This misunderstanding claims the Geneva Association has "led to disappointment or disillusionment about the industry."

Then comes the battle cry, "We need better communication!  We need better understanding!  If people are educated on the science of insurance, they will understand our value.  They will accept our costs!"  For instance, from the same Geneva Association report,
Correct and unbiased information on how insurance contributes to society and the economy is paramount, since lack of sufficient education often results in a negative opinion of the industry that can severely impact consumer confidence. 

Whatever! The claim that society does not understand the value of insurance is nonsense.  Just consider the hoops and backbends that government officials perform in an effort to maintain some semblance of stable insurance markets.  Consider the frustration that the public exhibits over ease of access to affordable insurance.  I would argue that society understands all too well the value of insurance and perceive it not just be valuable but invaluable. This, of course, causes contraints on the pricing of insurance much like it does on water and gasoline.

Further, that the cost of insurance is undesirable to current or would be policyholders is not equivalent to misunderstanding the industry.  Perhaps instead the industry misunderstands the public.  The public may have little desire to purchase insurance for a given perception of risk.  There is disagreement about the risk not the value of the industry of the insurance technology.

Let's try an analogy.  A person needs a pair of shoes to protect her feet.  She goes to the shoe store where she finds only steel toed boots for $200.  She gets upset, not because she is opposed to the concept of shoes or a shoe industry but, because she does not feel that the risk to her feet warrant steel toed boots at $200.  The store owner, rather than seeing the opportunity to diversify his products for sale, gives her brochures on foot injuries, shoe manufacturing, and economic statistics of the shoe industry.        

Efforts to educate the public so that they "will see the risk our way" will likely be met with resentment because society has its own list of different concerns.  High on that list is not likely to be the hurt feelings of the insurance industry.