Catastrophe Modeling and Natural Disaster Risk

Catastrophe Model Components

Catastrophe models have four modules: hazard, vulnerability, inventory (exposure), and financial (loss). The hazard module simulates event occurrence and intensity using historical data and scientific models (e.g., hurricane track models, seismic source models). Thousands of simulated years generate a stochastic event catalog. The vulnerability module translates hazard intensity to damage using damage functions (mean damage ratios by construction type, occupancy, and intensity). The exposure module maps the insured portfolio to geographic locations. The financial module applies policy terms (deductibles, limits, coinsurance) and reinsurance structures to damage estimates.

Output and Applications

Key outputs include the exceedance probability (EP) curve showing the probability of exceeding various loss levels, the occurrence EP (single event) and aggregate EP (annual total). Average annual loss (AAL) is the mean of the annual aggregate loss distribution. The probable maximum loss (PML) at a given return period (e.g., 250-year PML) guides reinsurance purchasing and capital decisions. Model uncertainty arises from each module and should be quantified. Exam MAS-II tests the conceptual framework, interpretation of cat model output, and integration with reinsurance and capital decisions.