Thinking the unthinkable: to effectively underwrite any potentially catastrophic peril, it's important to understand the dynamics of that peril.

It has been said that there are three types of people in the world: people who make things happen, people who wait for things to happen, and people who say "What happened?" Unfortunately, the entire insurance industry fits into the third category with regard to the tragic events of Sept. 11, 2001.

Terrorism was a coverage and exposure we rarely addressed, only giving it consideration in occasional foreign locations, such as the United Kingdom. Even though a group of terrorists tried to destroy the World Trade Center in 1993, the insurance community never gave serious consideration to the fact that the threat of terrorism on American soil was very real. In retrospect, an occurrence of some significance was likely to happen.

Not that anyone could conceive of an event of the magnitude of Sept. 11. The lives of 2,752 were tragically taken on that sunny Tuesday morning in New York. The insurance industry suffered its largest financial loss ever, with losses across every line of business. Remarkably, these massive losses came from a peril that was not even barely contemplated and therefore not underwritten or priced.

Four years later, many companies and underwriters struggle to determine the best way to underwrite and price this business. Obviously, there is much more to terrorism underwriting than can be handled in a short column like this. Unfortunately, terrorism is a real exposure and something we need to deal with as an industry.

The uncertainty over the extension of the Terrorism Risk Insurance Act as well as carriers' large deductibles make it prudent for them to understand and underwrite against terrorism. But too little attention seemingly has been paid to the underwriting of this peril, and that needs to change because this is not an issue, sadly, that is going away soon.

We all know now that an act of terrorism has the ability to be catastrophic, with losses even greater than a windstorm, flood or earthquake. With regard to worker's compensation, even a relatively small terrorist act could have large implications. From a property standpoint, the randomness of the potential act makes it difficult to use traditional insurance modeling techniques.

To effectively underwrite any potentially catastrophic peril, it is important to understand the dynamics of that peril. In the case of terrorism, a man-made peril, it includes considering the possibility of a large, sudden attack at a location. Underwriters must try to understand the thought process of terrorists and the goals they seek to accomplish.

Their objective is to generate as much damage as possible in three main areas: physical, financial and psychological. With an event such as 9/11, significant damage was delivered in all three categories.

* Physical: Terrorists want to kill and injure as many people as possible. As such, any gathering place should be considered a target. Places such as full football stadiums are more likely to be targets than recycling plants.

* Financial: Terrorists want to do damage to the stability of the world economy: For this reason, modes of transport and financial districts are a bigger underwriting risk than a rural farmer's market.

* Psychological: The main goal of terrorists is to strike fear and doubts into people. They want people to disrupt their normal plans and tendencies as a result of thoughts of harm that could be done.

The psychological aspect is the hardest to qualify and thus poses the most difficulty in underwriting. Who would have ever considered that terrorists would take hostages at a grammar school, as they did in southern Russia in September of last year?

And yet, we must consider this and all possible acts. Like other catastrophes, there are methods to track accumulations. In this regard, terrorism is a peril similar to flood, earthquake and windstorms in that we know that certain areas are more susceptible to an attack. Unlike other catastrophes, there is a randomness to the acts with regard to time and place.

In addition to the basic underwriting of terrorism, there is a school of thought that it is not the job of the insurance industry to provide coverage here. This school believes that the only equitable way to fund for terrorist events is through the government and that TRIA may not go tar enough.

For all of the uncertainty surrounding the peril of terrorism, underwriting it is similar to the risk management practices we use on a daily basis. We need to understand the issues, deter mine acceptability, price the risk accordingly and continuously monitor the situation.

Michael P. Egan, a Best's Review columnist, is a property officer with Swiss Reinsurance Co., Philadelphia. He can be reached at [e-mail].