An interview with Pete Thomas by Teresa Zink

Editor’s Note: The following in an excerpt of an interview with Peter C. Thomas conducted by Teresa Zink.  The full article will appear in the upcoming Reinsurance Roundtable Continuum, a new monthly report based on our conference and teleconference content.   Thomas is a co-chair of our 16th Annual Insurance Insolvency & Reinsurance Roundtable to be held April 22 to 25 at the Fairmont Scottsdale Princess in Scottsdale, Arizona.   He is an Executive Vice President & Managing Director with Willis Re and the executive officer responsible for Client Services Management.  Prior to joining Willis Re, he spent 29 years in the insurance and reinsurance industry.

[T]he purpose of a well designed catastrophe reinsurance program is to give clients the flexibility to deal with the unknown unknown kinds of losses,” Thomas explains.

By way of illustration, he references the 2007 book, The Black Swan:  The Impact of the Highly Improbable by Nassim Nicholas Taleb.  “If you think about what catastrophe underwriting is, what you are dealing with, in part, is the highly improbable kind of loss.”

Natural Bias 

According to Thomas, “When we as brokers look at helping clients design protections for their business, one of the things we have to wrestle with constantly is the natural human bias to underestimate and misunderstand catastrophes. This cogitative bias is not unique to the insurance industry. After 9/11 there were a raft of books comparing and contrasting the intelligence failures of 9/11 with those of Pearl Harbor. Max Bazerman and Michael Watkins authored Predictable Surprises – The Disasters You Should Have Seen Coming and How to Prevent Them.  This 2004 book describes the cogitative biases that prevent organizations from effectively managing the highly improbable kind of loss. There are parallels between the insurance community and the intelligence community.”

 Thomas says that “most people or organizations, when they are dealing with extremely low frequency but high severity catastrophe losses, have a very difficult time devoting the necessary resources to collect the information.  They are often reluctant to share information, there are gaps in institutional knowledge, and their own self-interest gets involved in how they look at risk. Responsibility in the organization is diffused as to who is responsible for dealing with the risk, and you don’t necessarily capture the lessons that you learned. The pre- 9/11 intelligence community is a text book illustration of this organizational risk assessment short-coming. One might also argue that the current financial crisis is another painful illustration of this phenomenon.”

“The simple fact of the matter is, most people unless they have personally experienced a loss, have a very difficult time paying for or dealing with that kind of loss on a going forward basis.  If I have not suffered, for example, a construction defect loss and I write a contracting portfolio, it is hard for me to realize how bad that can be.  If I am living in a place that has never experienced a terrorism loss, it is hard for me to fully appreciate why reinsurers who experienced the loss of 9/11 react the way they do.”

Thomas says, “there is a natural psychological tendency people have to discount things in the future and discount events that they have not personally experienced.”

It is important to keep this tendency in mind when designing coverage, Thomas notes, “because these are kinds of losses which are catastrophic in nature, which are prospective, and for which there is a natural psychological bias to discount those kinds of losses when making risk assessments and paying for coverage.”  It is the “high severity, fairly low frequency loss that has to be dealt with very carefully when analyzing the exposures,” according to Thomas.

Read more in the Reinsurance Roundtable Continuum.  Don’t miss the first issue, write to us at info@litigationconferences.com.