Earthquake models fail to factor in events driving two-thirds of recent industry losses: MS Amlin

Catastrophe models have been called out as failing to account for so-called “supershear” earthquake events, with specialist Lloyd’s re/insurer MS Amlin stating that models “are failing to factor in a little-known class of earthquake despite it being linked to two thirds of industry losses from seismic events in the last decade.”

For those underwriting insurance and reinsurance, or investing in catastrophe bonds and insurance-linked securities (ILS) with exposure to earthquake risk, this means there is a “blind spot” on potential major earthquake loss events, MS Amlin’s research suggests.

The study by the re/insurer suggests that earthquake risk may be underestimated by as much as 60% in extreme cases.

Which implies that risks may be underpriced in some cases. Unless underwriting and portfolio management teams are considering these events in their analysis of new deals and opportunities, through stress tests and other internal modelling processes.

MS Amlin’s researchers warn of a narrow window to resolve this issue before the next major California earthquake occurs and the new generation of quake models emerge.

The researchers found that the so-called “supershear” earthquakes accounted for 66% of insured losses from earthquakes since 2016, estimated at around US $13.2 billion.

Yet these types of earthquake events are “absent from seismic hazard models, building design codes and insurance catastrophe models,” MS Amlin says.

Explaining what these kinds of quake events are, MS Amlin stated, “Supershear earthquakes occur when rupture along a fault travels faster than usual creating a shockwave similar to a jet aircraft’s sonic boom. The result can be far stronger ground shaking, alongside a “double punch” effect caused by successive seismic waves.”

This can result in unusual torsion forces affecting taller structures, while also generating stronger ground shaking that can travel further away from the fault itself.

“While supershear earthquakes were once considered rare, they are being identified more frequently as seismic technology improves. Around 36% of major strike slip earthquakes globally since 2010 have involved supershear rupture,” MS Amlin explained.

Luke Wedmore, Senior Research Analyst at MS Amlin and co-author of the study alongside William Sturgeon, Research Analyst, commented, “There are still lots of things we don’t know about supershear earthquakes, but the evidence now suggests they are more common – and potentially far more damaging – than previously understood.

“The sonic boom produced by these ruptures can cause more intense and widespread damage – yet the impact is significantly underestimated in models used for capital and pricing decisions for earthquake risks.”

The study findings are particularly relevant to California, the largest market for earthquake insurance and where where the San Andreas Fault is vulnerable to supershear (the 1906 San Francisco quake was identified to be a supershear event).

Which means this is highly relevant to the reinsurance, catastrophe bond and ILS market, with significant capital at-risk in peak earthquake zones like California.

In fact, there is over $6 billion of purely US earthquake exposed catastrophe bonds in-force at this time, most of which include exposure to California.

In addition, a reasonable proportion of the over $17.6 billion of outstanding US multi-peril catastrophe bonds will also include some exposure to US quake, much of which will be California focused.

The MS Amlin led study suggests risk modelling, analytics and pricing for earthquake risks may be missing a critical input factor.

In fact, MS Amlin modelled the impacts of supershear quake effects on a representative set of insurance and reinsurance portfolios.

The insurer found that losses at a 200-year return period increased by between 5% to 10%, while at a 500-year return period losses jumped between 30% and 60%.

The re/insurer’s findings also have implications for parametric risk transfer and insurance contracts covering earthquake risk, as these event types may not always have been considered in the models it seems.

Wedmore further explained, “Given the higher shaking intensities caused by supershear earthquakes, there is a significant chance that earthquake risk in California is markedly underestimated. With California potentially experiencing its longest major earthquake drought in 1,000 years, now is a critical moment for the industry to address this blindspot.

“We have already updated our catastrophe models and view-of-risk to incorporate supershear effects and better understand the potential impacts on our portfolios.

“As the scientific evidence continues to strengthen, the wider industry must urgently do the same to incorporate supershear ruptures and their consequences.

“With major model vendors preparing to update US earthquake models following revisions to the national seismic hazard framework, a narrow window is open for the industry to close this gap.”