Thinking the unthinkable: how 'mega-cats' may bruise insurers.

A Category 4 hurricane plows ashore just north of Atlantic City, N.J., pummeling costly oceanfront vacation homes and swank casinos before it drives northward into New York state and eastern Canada. A Category 5 storm gouges the Florida peninsula from Miami to Cape Canaveral as it charges inland and then curves back out to sea.

These are among the $100 billion scenarios that give insurance executives nightmares. As many as 40 insurers could be vulnerable to failure if a hurricane caused $100 billion or more in insured property losses in the United States, according to a statistical analysis by A.M. Best Co.

A.M. Best's "2006 Annual Hurricane Study" assesses how the U.S. property/casualty industry might be affected by a potential, perhaps likely, $100 billion-plus insured property loss-almost twice the catastrophe losses from last year's hurricane season. Beyond the obvious impact on insurers' financial solvency, policyholders could see delayed payment of claims and difficulty finding affordable coverage. Some insurers, facing scarce and more costly reinsurance, would seek to mitigate their exposures in high-value coastal areas.

With the property/casualty industry's 2005 policyholder surplus at $434 billion, a loss of 20% or more of that amount begins at $87 billion. To assess how losses of that magnitude would impact today's industry, A.M. Best asked the leading catastrophe modelers--AIR Worldwide Corp., Eqecat Inc. and Risk Management Solutions Inc.--for several examples of credible catastrophe events. Each included a variation on a Northeast hurricane hitting the New Jersey or New York areas and a Florida hurricane making landfall close to Miami. Insured property losses under various scenarios and models ranged from $95 billion to $146 billion.

While the insurance industry in aggregate could weather such a financial storm, individual insurer rating downgrades and financial impairments likely would soar, A.M. Best found. Anywhere from 20 to 40 insurers, or 3% to 7% of all insurers with catastrophe-related exposure, would be vulnerable to failure. At the high end, impairments would nearly equal all catastrophe-induced insurance failures of the past 37 years, reaching roughly three times the number seen after Hurricane Andrew in 1992.

Colorado State University climatologists William M. Gray and Philip J. Klotzbach predict nine Atlantic hurricanes for the 2006 season--five of them intense, or Category 3, 4 or 5. The probability of a major U.S. hurricane landfall is estimated at 55% above average. The build-up of population and real estate development in highly vulnerable areas means it's only a matter of time before insured property losses top $100 billion from one event or a combination of events in one year, according to A.M. Best.

Companies at greatest risk of impairment tend to be thinly capitalized insurers with a Vulnerable Best's Rating 03 or below) or some companies not rated by A.M. Best. Conversely, at higher Best's Rating levels, the risk of an insurer facing financial impairment as a result of catastrophic losses is far less.

At the time of this publication, four Florida insurer failures have been tied directly to the one-two punch of the 2004-2005 storms.

The 12-page special report is available at www.ambest.com/Bestweek.