BCAR.Cat

Best's Capital Adequacy Rating for Catastrophes explains how to asses an insurer's ability to withstand a secondary catastrophe after a primary catastrophe. Catastrophe exposure is still often high even after a primary event. Cats can have a major impact on financial stability because they are Significant, Unexpected, and Rapid (SUR). For a good rating, AM Best expects insurers to be able to manage risk and absorb losses.   Forum

Pop Quiz

Which of the following are good catastrophe risk management techniques:

• measure exposure
• monitor exposure-accumulation
• limit exposure

BattleTable

Based on past exams, here is what you need to know (in rough order of importance):

• 4-step method for the natural catastrophe stress-test
• 4 factors affecting tolerance for stressed BCAR scores
• 4 elements of strong cat risk management (overlaps with OSFI.Eqk)

Top Questions ← Questions you absolutely need to know!

reference	part (a)	part (b)	part (c)	part (d)	part (e)
E (2019.Spring #18)	OSFI.MCT	OSFI.MCT	BCAR impact: - of eqk on surplus	OSFI.Eqk
E (2018.Spring #22)	cat risk management: - data quality	natural cat stress-test: - second cat	tolerance: - for stressed BCAR score
E (2017.Fall #26)	tolerance: - for stressed BCAR score
E (2017.Spring #23)	see BCAR.Cdn	see BCAR.Cdn	see BCAR.Cdn	natural cat stress-test: - purpose	tolerance: - for stressed BCAR score
E (2016.Fall #21)	BCAR risk categories: ICU (see BCAR.Cdn)	natural cat stress-test: - method
E (2015.Spring #17)	cat frequency & severity: - drivers	tolerance: for stressed BCAR score	natural cat stress-test: - BCAR vs CIA.DCAT
E (2013.Fall #27)	cat risk management	natural cat stress-test: - method

In Plain English!

The Concept of Tolerance

In assessing the financial strength of a company, Best calculates a standard BCAR score and a stressed BCAR score.

Question: what is the difference between a standard BCAR score and a stressed BCAR score

standard score:

• a measure of an insurer's financial strength (includes a component for catastrophes)
• an insurer is then assigned 1 of 6 ratings based on it's standard score (strongest, very strong, strong, adequate, weak, very weak)

stressed score:

• a score that reflects the ability of an insurer to continue operating even after a catastrophe (based on natural catastrophe stress test)

→ the standard BCAR score already has a catastrophe component and the stressed score reflects the effects of a second catastrophe

• an insurer is then assigned 1 of 6 ratings based on it's stressed score (will be the same or lower than its standard score)
• Note: the stress-test is necessary because an insurer still has cat exposure, even after the first cat event (Ex: aftershocks after a big earthquake)

Important: an insurer's final rating may stay the same or be lowered based on it's stressed BCAR score (this is where the concept of tolerance arises)

Question: what factors are considered in determining whether to adjust an insurer's rating based on it's stressed BCAR score

Best will keep an insurer's rating (in other words, tolerate it's stressed BCAR score) based on these considerations:

• financial flexibility: tolerance is HIGHER if the company is willing & able to replace capital after an event
• historical volatility: tolerance is LOWER if the company has as history of volatile operating performance
• frequency of severe exposures: tolerance is LOWER if the company has multiple exposures to severe events in a single season
• risk management: tolerance is HIGHER if the company has good/experienced risk management

Example: Suppose insurer A and B both have a Best rating of strong based on their standard BCAR scores. * Given the information below, which insurer is likely to keep it's rating, which is likely to have it lowered based on a stressed BCAR score of adequate.

Insurer A: relatively young, never experienced a catastrophe, large swings in operating results

Insurer B: well-established, experienced 2 moderate catastrophes in the last 18 years with only small swings in operating results

Answer:

Insurer A is likely to have its rating lowered because of inexperienced risk management and historical volatility.

Insurer B will likely keep its rating because of proven cat management ability and consistency in operating results.

Another way of saying this is that insurer A has a lower tolerance for its stressed BCAR score, while insurer B has a higher tolerance.

mini BattleQuiz 1 You must be logged in or this will not work.

Natural Catastrophe Stress Test

In the previous section, we discussed the stressed BCAR score. This score is based on something called the natural catastrophe stress test.

Question: what are the steps in the natural catastrophe stress test

1. surplus: reduce reported surplus by PML (net post-tax 1-in-100 year event)
2. reinsurance: increase reinsurance recoverables by at least 40% of ceded PML
3. reserves: increase reserves by 40% of net PML
4. optional: adjust PMLs used in cat risk portion of standard BCAR score due to changes in reinsurance structure after 1st cat event

After completing these 4 steps, recalculate the BCAR score according to the standard methodology.

Note: This is slightly different from the answer given in examiner's reports for 2018.Spring and prior. (The syllabus changed for 2018.Fall)

There is a forum thread regarding a calculation problem based on the natural catastrophe stress test. I think a calculation problem on this is unlikely but you can read my answer and see what you think.

Cat Risk Management

This concept overlaps with OSFI.Eqk, and provides a good review.

Question: what are the elements of strong cat risk management according to AM Best

catastrophe modeling: parameter selection is critical & use more than 1 model

data quality:

• accurate property location & coding (type of buildling)
• accurate property value & insurance-to-value
• conduct site reviews (so that information is up-to-date)
• safeguards to prevent manipulation by insured

aggregate loss exposure: use aggregate losses as a secondary test of model

monitoring (MML): Measure, Monitor, Limit exposure on a continuous basis

The mini BattleQuiz also has an old exam question that asks you to compare BCAR to DCAT.

mini BattleQuiz 2 You must be logged in or this will not work.

BattleCodes

Memorize:

• 4 factors affecting tolerance for stressed BCAR scores
• 4-step method for the natural catastrophe stress-test
• 4 elements of strong cat risk management (overlaps with OSFI.Eqk)

Conceptual:

• Be able to apply the concept of tolerance to an example such as the one above.

Calculational:

• none

Full BattleQuiz You must be logged in or this will not work.

  Forum

POP QUIZ ANSWERS

• All of these are good risk management techniques for dealing with risk exposure, catastrophe or otherwise, but it's especially important with a potentially severe loss.
• Call it MML (measure, monitor, limit)