Earthquake models show “blind spots” on tsunami and contingent business interruption losses

Earthquake models generally did a good job estimating the property and building damage due to the seismic shocks arising from earthquakes in 2010-11, but “blind spots” included loss estimates related to tsunamis and contingent business interruption.

Erdem Karaca, vice president and earthquake specialist at Swiss Re, assessed the performance of catastrophe models at the Insurance Bureau of Canada (IBC)’s 2012 Financial Affairs Symposium in Toronto on Apr. 18. His presentation evaluated how the models performed following earthquakes in Japan, New Zealand and Chile.

In his presentation, Karaca observed that the effects of the tsunami after the March 2011 Tohoku earthquake in Japan were far worse than the damage caused by due to the actual ground shaking in the country’s coastal zones.

He said tsunamis were a key driver of losses following earthquakes occurring in Japan, Chile, Peru and the Pacific Northwest. Each of the earthquake events of Magnitude 9 or higher since 1900 have created a damaging tsunami, including Chile’s Magnitude 8.8 earthquake in 2010.

And yet, “none of the commercially available cat models actually model tsunami [damage],” he said.

Similarly, contingent business interruption losses arising from the Japan and Chile earthquakes were not explicitly captured in the models, and their exposure is not fully understood, Karaca added.

Contingent business interruption insurance provides coverage to an insured business when one of its suppliers or key customers suffers a direct physical loss that interrupts the insured’s own business (by interrupting the insured’s revenue stream, for example).

Karaca said these contingent business interruption claims amounted to roughly half of the total insurance payout to industrial facilities in Chile following the 2010 earthquake. He said the extent of the contingent business interruption claims related to the March 2011 earthquake in Japan remains unknown and would take until at least mid-2012 to clarify.