One culprit in the higher-than-expected losses in recent storms was the relative failure of catastrophe risk modeling software programs to gauge the extent of potential loss. In the wake of Katrina, cat modeling companies like RMS have upgraded their programs, in an effort to provide underwriters with better projections. ACE, for instance, now relies exclusively on RMS 6.0 in underwriting catastrophe perils.

Rating agencies also played an inadvertent role in the creation of MARI. Standard & Poor's stiffened its requirements last year, regarding how much capital insurers must reserve for catastrophic risks. Ultimately, it was the combination of improved cat models, tougher capital reserve adequacy standards and the underwriting prowess of ACE, an A-plus rated insurer by A.M. Best Co., that gave investors enough security to back MARI. Morgan Stanley served as structuring adviser and placement agent for MARI.

For corporate risk managers, bedeviled in their efforts to acquire affordable property insurance at ample limits, the extra capacity MARI provides is a blessing–of sorts. "Any additional infusion of capital into the property marketplace is always welcome by the customer and will help to drive competition. However, the true measure of this competition is what the terms will be for the coverage and if the carrier will pay the claim," says Ewing. "The risk manager is not judged solely by how much premium was saved, but by whether claims get paid. That's what separates the competition in the cat property market."
MARI is unique in the "sidecar" coverage it offers: MARI picks up windstorm and earthquake losses, while ACE picks up those losses as well as the remainder of risks within the all-risk property policy. In traditional "treaty" reinsurance, the reinsurer absorbs all the risks taken by the retail insurer. MARI, in effect, cleaves out those perils deemed too risky by many reinsurance markets.

"The structure for the facility is also novel, because it is backed by equity funds in the capital markets," says Michael Hudson, a managing director at Marsh in Los Angeles. "Since property insurance is sold on an all-risk basis, we needed to find a partner to provide the rest of the coverages, such as fire from explosion and business interruption extra expense insurance. That's where ACE comes in."
ACE underwrites and absorbs the rest of the risk that traditional reinsurers would cover. "The customer gets a strong pillar of risk capacity–a large block of the highest quality capacity down low (in a structured policy), as opposed to five blocks of $5 million," says Ed Zaccaria, president of ACE Global Underwriters in Philadelphia.

By having $25 million on tap to take the first dollars of loss, as opposed to multiple layers of capacity from several different insurers, the threat of non-
payment of the claim is reduced. Moreover, since the risk dollars for MARI already are in the till–the advantage of capital market instruments versus insurance–credit risk reduces further. "The capital markets represent a risk transfer opportunity for insureds and a competitive threat to insurers," says Brian Merkley, risk financing manager at Huntsman Corp. with headquarters in Salt Lake City. "Insurers have increasingly recognized the value of capital market tools and investments as a viable alternative to traditional approaches for covering certain exposures like hurricanes and earthquakes. Clearly, there is a need to increase reasonably priced windstorm exposure capacity, particularly for companies with U.S.-based risks."

MARI isn't the only innovation coming out of the capital markets in recent weeks aimed at catastrophe risks. The Chicago Mercantile Exchange recently announced that it will begin trading hurricane hedges in March. The plan is to market futures and options contracts allowing insurers, investors and individual corporate customers to hedge their projected hurricane risks. The tool, Merkley says, "could represent windstorm capacity in a new form and compete with traditional insurance risk transfer programs."