It doesn't matter that Orlando hasn't been hit by a hurricane since 2004.
It predicts hurricane damages. Then like other companies that do likewise, it sells those predictions to insurance companies. They then use the information when setting rates.
RMS is a major player in the risk field, and so what it predicts very much affects your life.
This month, RMS affected your life in a major way.
It reported that potential hurricane losses in Orlando have been greatly underestimated. Florida's flat topography doesn't drain much energy from hurricanes, so our inland location doesn't provide much of a buffer.
This isn't surprising for those of us around during Hurricane Charley. It traveled 180 miles across the state and still hit us with wind gusts topping 100 mph.
What we know from experience, scientists have been trying to quantify with data. They do this by tracking wind speeds as hurricanes move across the land, figuring out how quickly they lose power.
RMS now has compiled all this data. And in a major reversal of conventional wisdom, it calculated that the risk to inland counties has been grossly underestimated, and that the risk in coastal areas has been, in some cases, overestimated.
To offer a simplified explanation of how this could play out, I will use the example of a fictional company called Acme Insurance. It has dumped all its policies on the coast, considering them too risky, and moved inland, selling 10,000 policies in Orlando.
Suddenly, Acme is told that its Orlando policies are a lot riskier than it thought.
Acme only has the ability to cover $100 million in claims but learns its policy holders could suffer $200 million in losses from a major storm.
Insurance companies don't have the cash on hand to pay such catastrophic damages. They buy backup coverage from reinsurance companies. This allows them to leverage a lot of policies with a little money. So Acme has to go buy more reinsurance to cover its increased risk.
These reinsurance companies are a murky bunch. They are located offshore and are funded by international investors that gamble on catastrophic risk.
Think of six guys sitting around a tiki bar in the Bahamas, smoking $50 cigars and drinking single-malt Scotch.
Acme Insurance goes to them and buys another $100 million in coverage. Acme has to pay a whopping $20 million for this coverage because these guys aren't regulated and they aren't cheap. If they are gambling on hurricanes in Florida, they want a nice return for their risk.
Acme Insurance will want to get reimbursed from its policy-holders. Gov. Rick Scott and the Legislature have decided Acme is entitled to it.
So prepare to get socked.
Making matters worse, our friends at RMS also calculate hurricane damages in other states. And they have reached similar conclusions: The damages projected in inland areas have been grossly underestimated. All this will create a bigger demand for reinsurance. And the guys sitting around the bar in the Bahamas will charge accordingly.
Reinsurance companies insure all kinds of catastrophic risk, not just hurricanes. They lost a bundle on the Japanese tsunami and the Chilean earthquake.
Think of the reinsurance market as a giant pool of money. When a catastrophe drains the pool, the pool must be refilled. Florida comes in handy for that.
Global disasters have ripple effects that make it all the way down to your homeowner's premium.
The money paid these reinsurance companies does not go into a separate pot that accumulates if there is no storm. Each year begins anew. This is why rates continue to rise despite the absence of hurricanes.
It is why they will continue to rise for years to come.
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