Original post:
We have dozens of posts on models and modeling, links below the jump.
This series from the Times-Herald is getting better and better. Here's the latest:
Florida insurers rely on dubious storm model
Hurricane Katrina extracted a terrifying toll -- 1,200 dead, a premier American city in ruins, and the nation in shock. Insured losses would ultimately cost the property insurance industry $40 billion.
But Katrina did not tear a hole in the financial structure of America's property insurance system as large as the one carved scarcely six weeks later by a largely unknown company called Risk Management Solutions.RMS, a multimillion-dollar company that helps insurers estimate hurricane losses and other risks, brought four hand-picked scientists together in a Bermuda hotel room.
There, on a Saturday in October 2005, the company gathered the justification it needed to rewrite hurricane risk. Instead of using 120 years of history to calculate the average number of storms each year, RMS used the scientists' work as the basis for a new crystal ball, a computer model that would estimate storms for the next five years.
The change created an $82 billion gap between the money insurers had and what they needed, a hole they spent the next five years trying to fill with rate increases and policy cancellations.RMS said the change that drove Florida property insurance bills to record highs was based on "scientific consensus."
The reality was quite different.Today, two of the four scientists present that day no longer support the hurricane estimates they helped generate. Neither do two other scientists involved in later revisions. One says that monkeys could do as well.
In the rush to deploy a new, higher number, they say, the industry skipped the rigors of scientific method. It ignored contradictory evidence and dissent, and created penalties for those who did not do likewise. The industry flouted regulators who called the work biased, the methods ungrounded and the new computer model illegal.
Florida homeowners would have paid more even without RMS' new model. Katrina convinced the industry that hurricanes were getting bigger and more frequent. But it was RMS that first put a number to the increased danger and came up with a model to justify it.
As a result of RMS' changes, the cost to insure a home in parts of Florida hit world-record levels.Hundreds of thousands of homeowners were forced to find new insurers as national carriers fled the state.Yet the prediction of a more dangerous Florida has not played out.The new RMS model called for at least 11 hurricanes to come ashore in the United States by the end of 2010, most of them aimed at Florida.
Four hurricanes struck the U.S. None hit the Sunshine State.RMS stands by its five-year outlook and contends that the risk of hurricanes remains higher than normal. Company officials last week said they would continue to adjust their model as needed, but a single five-year lull does not disprove their results.
Yet a growing number of experts now wonder if the changes spurred by RMS -- and the accompanying spike in insurance premiums -- were justified.The woman credited with launching the industry of hurricane modeling questions how near-term models were introduced. She accuses RMS of overselling software that lacked sufficient scientific support, and says insurers accepted the output of that model as if it were fact.
"I've never seen the industry so much just hanging on what a handful of scientists or one model would say," said Karen Clark, founder and former CEO of AIR Worldwide, an RMS competitor."They're just tools," Clark said."They're models."They're wrong."
FOUR MEN, FOUR HOURSThe daily papers were still blaring news about Katrina when Jim Elsner received an invitation to stay over a day in Bermuda.
The hurricane expert from Florida State University would be on the island in October for an insurance-sponsored conference on climate change. One of the sponsors, a California-based company called RMS, wanted a private discussion with him and three other attendees.
Their task: Reach consensus on how global weather patterns had changed hurricane activity.The experts pulled aside by RMS were far from representative of the divided field of tropical cyclone science. They belonged to a camp that believed hurricane activity was on the rise and, key to RMS, shared the contested belief that computer models could accurately predict the change.
Elsner's statistical work on hurricanes and climatology included a model to predict hurricane activity six months in advance, a tool for selling catastrophe bonds and other products to investors.There was also Tom Knutson, the National Oceanic and Atmospheric Administration meteorologist whose research linking rising carbon dioxide levels to potential storm damage had led to censoring by the Bush White House.
Joining them was British climate physicist Mark Saunders, who argued that insurers could use model predictions from his insurance-industry-funded center to increase profits 30 percent.
The rock star in the room was Kerry Emanuel, the oracle of climate change from the Massachusetts Institute of Technology. Just two weeks before Katrina, one of the world's leading scientific journals had published Emanuel's concise but frightening paper claiming humanity had changed the weather and doubled the damage potential of cyclones worldwide.
Elsner said he anticipated a general and scholarly talk.Instead, RMS asked four questions: How many more hurricanes would form from 2006 to 2010? How many would reach land? How many the Caribbean? And how long would the trend last?...MUCH MORE
I was a bit dubious of the initial thrust of the series. From the first piece "Florida's Hurricane Insurance Premiums Largely Determined Overseas":
This article starts out as just silly but the picture is pretty neat.
They get to a couple important points about halfway through.
By the time "How Bermuda rigs insurance rates in Florida" was published I had changed my tune:
Told ya.
From "No Surprise: Chile Leads to Reinsurance Rate Increase Debate" BRK-A; BRK-B
No kidding.
A brisk breeze gets the boys in Omaha, Zurich, Munich and London (Lloyds) talking about premium increases.
Not to mention the herverzekering crowd in Amsterdam, they're tough bastards....It's a dog-eat-Hoppin' John world.
That Bermuda link had further links to the rest of the series.
Some recent posts on insurance and models:
We have A LOT of posts on models and modeling. Financial, climate, high-fashion.
What it all boils down to is a line that Alfred Korzybski used in a different context: "The map is not the territory".
Model designers and model users must always remember that their models are not reality....
Gen Re is Berkshire Hathaway's reinsurance operation (plus a few other things that would be sizable in their own right).
It is a heavyweight.
I hate copying out entire articles, good writing deserves the traffic.
In this case I'm afraid they will put this major piece behind the paywall.
There's a reason that Reactions motto is "Financial intelligence for the global insurance market."
Other posts on models:
"Airspace Closure Was Exacerbated by Too Much Modeling, Too Little Research
We have a deep and abiding interest in models.*
*The problem with models?:
"The map is not the territory"...
-Alfred Korzybski
Some of our prior posts on models:
The Financial Modelers' Manifesto
After the Crash: How Software Models Doomed the Markets
How Models Caused the Credit Crisis
Quants Lose that Old Black (Box) Magic
Finance: "Blame the models"
Climate Models Overheat Antarctica, New Study Finds
Climate modeling to require new breed of supercomputer
Computer Models: Climate scientists call for their own 'Manhattan Project'
Computer Models: " Misuse of Models" and "No model for policymaking"
Climate prediction: No model for success
Climate Models and Modeling
Based on Our Proprietary "What's on T.V." Timing Model...
How many Nobel Laureates Does it Take to Make Change...And: End of the Universe Puts
The New Math (Quant Funds)
Modeling*: The Map is Not the Territory
Inside Wall Street's Black Hole
Computer Models: Models’ Projections for Flu Miss Mark by Wide Margin
The Swedish Model
As the [college] site that I lifted the picture from said:
