Moving the Big Stuff
Big changes in global energy markets and the infrastructure needs of developing nations are driving large-scale construction projects globally. The building blocks for many of those projects must move by sea, a perilous passageway with the potential for massive losses.
Soft insurance rates and plenty of capacity erase any notion of project cargo insurance as a commodity. It’s in the engineering and project management that carriers win the business.
“In many insurance lines, loss control and risk management are reactive but in project cargo, it is very proactive, especially for us,” said Steve Weiss, now senior vice president, marine, for Aspen who spoke to Risk & Insurance® when he was a senior vice president for Liberty International Underwriters.
“Engineering is the life cycle of project cargo, from the time of submission through underwriting, post binding and execution.
“You don’t make money in project cargo on rates or terms and conditions, you make money on project management,” Weiss said.
Not that anyone is making a great deal of money in project cargo at present.
“The project cargo market is still very active globally,” said Kevin Wolfe, global head of project cargo for Allianz Global Corporate & Specialty.
“There is more than ample capacity overall, but there are still a limited number of major players that prefer to lead the largest projects. Rates are more competitive than they were several years ago, but still are at a viable level where profitability can be maintained.
“Terms and conditions are always being tested by the marketplace. Some can be adjusted, but some are very specific to project cargo, such as survey warranties.
Without those in place, coverage becomes so broad that we just won’t entertain the specific risk.”
Weiss concurred: “There is plenty of capacity to build any tower you need, up to $1.5 billion or so. But there are only a handful of lead underwriters.”
Global Infrastructure Needs
By definition, project cargo varies practically with every shipment. Wolfe said that Allianz is seeing activity in all regions. In Asia-Pacific and Africa there are quite a few projects related to quality of living, water filtration, power generation and transmission. In South America and Australia, there has been a lot of bridge and tunnel construction, while the Middle East is seeing more rail building.
“In the last year, we have seen a lot more activity in plant upgrades and expansions,” said Wolfe, “whereas a few years before, we saw more greenfield projects. We continue to see jumbo projects, like the natural-gas liquefaction projects, but have seen much more activity in small to mid-sized ones.”
The project cargo market is notable for the high-profile moves of huge, expensive, heavy, fragile and unusual items.
John Michel, marine underwriting manager for Global Special Risks (GSR) Group, a subsidiary of RSG Underwriting Managers, said those moves tend to go well because there is often just one shipment, and every one is paying close attention.
That was not always the case, he said.
“A few years ago we had a project shipment of a complete factory being moved from North America across the Atlantic. It was thousands of parts in many shipments. We just knew there were going to be some loss(es) because of the numerous shipments.”
Michel added that GSR was able to implement a program, and handle any claims.
The highly variable nature of the project cargo market also means that any given move can be expensive to cover.
“We just bound a contract for a big generating plant,” said Kevan Gielty, president and CEO of Coast Underwriters.
“The overall market is soft, but in many projects such as this one there is heavy exposure in lag time if anything went wrong. So the pricing for that policy was firmer than we have seen recently. In cases where premiums are more competitive, there is an even greater emphasis on loss control.”
Gielty noted a continuing trend in project cargo is manufacturers offering coverage. This is not new, but in a soft market every competitor is a factor. Some very large utilities and energy companies will simply self-insure to a point and only go to the market for excess.
“We typically get involved in the delay-in-start-up [DSU] component,” he said.
“When the U.S. was slow, Latin America was busy, especially expanding power sectors, most notably in Brazil. Now we are anticipating an uptick in Mexico as the energy sector is liberalized.”
— Steven Weiss, senior vice president, marine, Aspen
“That is not written alone because we need to be involved in the whole process.”
Weiss said that “North American rates have declined the last five to six years. The high was in 2007-08, and they are down 15 to 20 percent since then, although relatively flat so far this year. The U.S. and Canada have seen a decent uptick in project cargo because of power generation and natural gas.”
Different regions can often be countercyclical, he said. “When the U.S. was slow, Latin America was busy, especially expanding power sectors, most notably in Brazil. Now we are anticipating an uptick in Mexico as the energy sector is liberalized.”
Even as underwriters track geographic and sector changes, they are also seeking new types of business.
“It is a bit more of a challenge for the underwriter, but it simplifies things for the insured. This is definitely a growth area for us.
“Another extension of the project cargo market is contractor’s equipment. The energy markets in London can be expensive, and they are focused on windstorm.
“Covering that through the cargo market gets away from restrictions of geography and storm. It also moves to a market where there is ample capacity and moderate rates.”
Despite the current conditions where terms and conditions are broad and rates are trending down, Michel is sanguine.
“These trends will catch up with the industry at some point, it cannot go on forever.”
One of the interesting — and challenging — aspects of project cargo is that it can be counterintuitive.
For example, globalization of green energy might seem to be a boon, but Wolfe noted that more and more solar arrays and wind-turbine components are being made in each region, so the coverage of those moves tends to be within the engineering and construction policies, rather than in the deep-sea marine realm as it used to be when only a few places had industry capable of making such components.
“Mining is still active in North and South America, as well as sub-Saharan Africa,” Wolfe said, but again there can be an overlap with construction.
“In many regions, the biggest challenge of a mining or manufacturing project can be the adequacy of roads and bridges necessary to get components and then raw materials in, or production out.”
The variable nature and size of some coverage also makes project cargo unusual in that lead underwriters have to adapt their organizations to a large project.
“We have to consider deployment of our own resources even before we bind,” said Wolfe.
“By the time we have a contract, we have already had multiple conversations with our loss-control team. They are an integral part of the underwriting process. They might identify 40 critical items in the project that could require 100 or more surveys in total.”
Given the size and scope of Allianz, the company naturally prefers to use its own people whenever possible. But that still requires adaptation by the underwriters and marine loss control.
“As a result, we move our people around globally as needed,” said Wolfe.
“That varies with the size and type and number of projects. There can be hundreds of surveys required on different projects in different parts of the world at similar times.”
“Managing a project is a very fluid environment, modes of transit and shipping schedules change, the people change, even the risk managers. We constantly have to match people to risks and risks to people.”
— Kevin Wolfe, global head of project cargo, Allianz Global Corporate & Specialty
Adding a fourth dimension, “nothing ever stays the same over the course of a multiyear project,” said Wolfe.
“Managing a project is a very fluid environment: modes of transit and shipping schedules change, the people change, even the risk managers.
“We constantly have to match people to risks and risks to people. We do have a short list of outside vendors that have been vetted by our head of marine loss control, but even then the internal dialogue stays lively throughout the life of each project.”
Insureds can deploy risk management as well. There are several service providers that aggregate and analyze exposures and losses.
“Data is often spread across many losses, claims, exposures, policies, programs and different companies with different platforms,” said Bob Petrie, CEO of Origami Risk.
“We use analytics to look for patterns and events that cause losses. Insureds can use those to identify sources of exposure. Then, if there is a loss, the software can be used to report a claim, and it will get the loss reports and supporting documents to the underwriters.”
One of the new targets in project cargo risk management is tracking near misses, said Phil Wiedower of Origami.
Near-miss data is often held within an owner’s records, but tends to get overlooked because there is no claim, he said.
“Owners are looking to understand what risks to retain and what to transfer. Knowing the near misses as well as the loss history is important in the transfer cost-benefit analysis,” Wiedower said.
Fire Risks Simmer in New Construction
Lightweight wood construction has enabled developers to use unused and underused properties to build multi-family structures quickly and inexpensively.
The downside is that in a fire, the thin wood and laminate burns quickly, as graphically demonstrated last year when complexes under construction in San Francisco and Houston were destroyed. (See R&I story: Hot Targets: Upscale Urban Projects.)
The vulnerability of mid-rise wooden structures was brought more ominously to national attention earlier this year by a fast-moving fire that gutted the fully occupied AvalonBay residential complex in Edgewater, N.J.
The fire was clearly visible across the Hudson River in Manhattan. There were no serious injuries but more than 1,000 residents lost everything.
The blaze was caused by maintenance workers using a blowtorch for plumbing work in the walls, and spread quickly through connected attic spaces. Insurance sources familiar with the claim said that partitions in the complex designed as fire breaks had been penetrated for utility access.
“The purpose of [fire] codes is not to prevent the building from burning down, but rather to ensure that there is sufficient time and opportunity for all occupants to exit safely in the event of a fire.” —Michael Feigin, chief construction officer, AvalonBay
“There is a lot of light, quick construction these days, because it is cheaper and faster,” said Michael Pilla, CEO of Technical Risk Underwriters (TRU), part of Ryan Specialty Group Underwriting Managers.
“For owners, the sooner they can lease the property, the better. On a $100 million project, an extra 15 percent for steel structural units is not just $15 million, it is also more time and expense to build, because skilled labor is stretched thin in the construction trades. Nail gunning is easier and faster and there are more workers who can do it.”
The complex was built in compliance with fire and safety codes, said Michael Feigin, chief construction officer for developer AvalonBay, after the fire.
He added that “the purpose of those codes is not to prevent the building from burning down, but rather to ensure that there is sufficient time and opportunity for all occupants to exit safely in the event of a fire.”
Therein lies the problem for residents and underwriters: how best to protect structures that are not built to withstand more than a few minutes of fire.
“We say the choice is to build to code or to build to last,” said Brion Callori, senior vice president of engineering and research at FM Global. “The Edgewater fire is a perfect example of that. It was built in compliance with National Fire Protection Association [NFPA] codes.”
The best option, said Callori, is sprinklers, but retrofitting those into existing structures is difficult. Treatments also have their limitations.
“Wood burns,” he said. “Passive fire protections, such as coatings, are a challenge in original construction because they may not last the life of the building.”
Coatings are also a challenge in retrofits because it is difficult to get to all surfaces. At best, coatings will slow a fire, but cannot stop it, he said.
“We have seen a lot of treated lumber and sprays for fire resistance,” said Pilla, “but it’s still wood — and wood burns. We write a large amount of large structures and we have found that the best practice is for owners and managers to stick rigorously to the NFPA codes.
“We inspect every property as frequently as every three months for every NFPA code and cite ‘SCARE’ instances — serious conditions affecting risk exposures. We note them and let the owners or operators know we will be back. You would be surprised how often you see the same issues over and over.”
Based on lessons learned from actual losses as well as at FM Global’s research and testing center in Providence, R.I., Callori said, “We are focusing on ways to reduce the cost of sprinkler systems in both original construction and in retrofits. They look simple, but they are really very complex systems.”
The current focus for FM Global is original and retrofit sprinklers for warehouses, where ceilings and shelves are going higher and higher, and more plastic is being used.
Shortcuts Turn Into Tragedies
Beyond the challenges of physics, chemistry and engineering, the biggest hurdle for insurers may be the soft market, said Callori. “Our underwriting is tied to engineering, and upgrades or retrofits can lead to lower premiums, but that is not what drives things. Rates are market driven and currently there is a soft market.”
Another complication reported by both carriers and owners is the complexity of the codes.
TRU has consolidated the NFPA mandates into a summary booklet called the Builders Risk Tool Box. “Our engineers have written protocols using the NFPA codes, and even included sample permits. Our tack is prevention. There are a lot of competitors in this market and a lot of capacity.”
Pilla is quick to note that contractors, owners and operators with better loss histories usually have their own protocols.
“The prudent contractor exceeds the standards. Where we find problems is when someone skips a step, like having a fire extinguisher at hand during hot work. In the time it takes to run and find a fire extinguisher, a fire can grow. We also see situations where crews left the job too soon and something smoldering flared up.”
The problem is worse with renovations, rehabs and retrofits, because those are often done with far fewer people and on a much smaller scale.
“In a new build,” said Pilla, “there are lots of people on the job. There are inspectors, and you can see almost everything. In a rehab, it could just be a few workers working in one space at a time. [There is] often less supervision and less ability to see potential hazards.”
One industry source with close knowledge of the Houston, San Francisco, and Edgewater fires said that uncontrolled hot work, such as was the case in Edgewater, is one of the top causes of fires.
“Hot work is nasty, and problems are common,” the expert said. “The codes and best practices are sound, but they are often not followed, especially in rehab and retrofit work because crews are often in a rush and are rarely observed.”
Flood Modeling: A Key Property Market Challenge
Capacity awaits for when flood can be more adequately modeled.
As if putting a neat bow on all the major themes of the Advisen Property Insights Conference June 4 in New York, Robert Schimek, senior vice president and CEO Americas said that “within the next few weeks, AIG will announce a new risk management center of excellence in association with a major university that will be centered on engineering and technology.”
Although the event had its usual depth and breadth, each panel and speaker seemed to focus on different perspectives of the same essential concepts: Big data and third-party capital markets are forcing an industry that has historically sought more information and funding to restructure itself to be able to manage surpluses of both.
The AIG center is expected to provide insight on how to do that. No further details were available from the company at press time.
“There are billions of alternative-capital dollars on the sidelines just waiting to get in,” said Cory Anger, managing director of GC Securities and global head of ILS origination and structuring at Guy Carpenter.
“Just 1 percent of the pension funds is about the current size of the reinsurance market today. And that does not even count sovereign wealth funds and family offices.”
She also noted that this looming capital is becoming available at a time when several markets are in need of fresh capacity. The flood market in particular, Anger cited, “has a huge under-funded problem. We are at a very big turning point in how we deal with this. It is a sea shift as rate adequacy is moving up slowly. We are seeing increased privatization of risk that had been centralized.”
While that might seem like an unmitigated blessing, Advisen CEO Bill Keogh, moderator of the CEO panel that closed the conference, asked the panel if reinsurance was still viable in the face of burgeoning alternative capital, and if property catastrophe margins were gone forever. Both unintended consequences.
Byron Ehrhart, CEO of Aon Benfield Americas and chairman of Aon Securities, assured the packed room that “reinsurance is still viable and is becoming more competitive.”
And Anger, of GC Securities, offered hope that “prop cat margins can get to where baseline pricing is more reliable so it can be depended on as a source of revenue.”
As with big money, big data is both a boon and a burden. “Analytics is exciting stuff,” said Thomas Lawson, president and CEO of FM Global.
“But we have been collecting data for 180 years and we know that the strength of your model is only as good as your data. And your data is only as good as your premise.”
Lawson also made a point of addressing a concern that several large owners had raised throughout the conference: the reluctance of underwriters to pay property claims in cases when the damage could be traced to some type of cyber threat, or to write coverage for data and systems.
One reason for that reluctance is that cyber security remains difficult to evaluate in traditional underwriting. So just as a theft claim would not be honored if a door were left unlocked, some carriers have been unwilling to pay for cyber losses if proper safeguards were not in use.
“You can’t keep people out of your system. But you can know when they get in, and have ways to get them out.” — Thomas Lawson, president and CEO of FM Global
“We have known that data is property for some time,” said Lawson.
“A loss is a loss, loss of data, or denial of service. The same as if a gas turbine explodes because of a virus or because of a mechanical failure.”
On cyber security Lawson added, “the current mentality is that you can’t keep people out of your system. But you can know when they get in, and have ways to get them out.”
Taking an active role, Schimek said that AIG has been investing in new capabilities to provide insights on dark networks and insureds’ vendor networks.
“There is a real risk to physical property from a cyber attack.” Far from being a problem, he exhorted, “this is a great opportunity for the industry.”
The idea of a broader opportunity was another theme in the conference, established early by Paul VanderMarck, head of strategy and partner development for RMS, in his keynote address.
“Models make markets,” was the catchphrase of his remarks. He elaborated that the flood market in the United States “is a well known peril, but is nowhere near fully covered because it is one of the most complex perils to model. We have made much more progress in earthquake.”