Terrorism Insurance Market in State of Uncertainty

The threat of terrorism in the U.S. is rising but the future of the Terrorism Risk Insurance Act (TRIA) is in question. At a time when top U.S. officials warn of an imminent attack that might be hard to prevent, the government may scale back its terrorism backstop. These factors have raised uncertainty in the insurance market, particularly for brokers and buyers of terrorism protection when considering the appropriate level of coverage to purchase.

The nature of terrorist threat is shifting. The director of National Intelligence stated recently that Al Qaeda and its affiliates are determined to launch a full-scale attack in the U.S. in the next three to six months. That attack could be much harder to detect and stop, warned CIA Director Leon Panetta, who noted that Al Qaeda and its affiliates have adjusted their strategy.

Also, the global risk consultant Control Risks has identified an “emerging profile of younger, transient, impressionable operatives radicalized at a young age and trained by experienced Al Qaeda cell leaders to conduct specific operations.”

Umar Farouk Abdul Mutallab, the man charged with the attempted bomb attack on a plane over Detroit on Christmas Day, fits this description. He already had a history of traveling to terrorist camps (although just 23 years old) and tried to carry out an attack, using a type of explosive that is largely undetectable to many airports’ scanners.

There is also an apparent rising threat from homegrown terrorists, which was graphically illustrated by the Nov. 5, 2009 attack on the Army Post Fort Hood, Texas, when U.S. Army Major Nidal Malik Hasan went on a deadly shooting rampage that left 12 soldiers and one civilian dead and dozens more wounded.

Against this backdrop, the Obama Administration has proposed scaling back federal support for TRIA, as well as eliminating coverage for acts of domestic terrorism. The program’s future remains uncertain, as it is only authorized through 2014.

The White House has argued that TRIA can be scaled down because of an industry surplus and greater capacity in the private market. However, insurers counter that the increased private capacity exists precisely because of TRIA. A loss of $249 million in federal subsidies could trigger a substantial reduction in that private capacity. That would undoubtedly affect the cost of coverage, particularly in big cities such as New York, San Francisco and Chicago.

Also, looking at the government’s recent proposals, it appears that the mandatory make-available provision will remain. However, if the co-participation for insurers is raised from its current 15 percent, pricing is likely to increase. In addition, the trigger for government participation has been raised twice, from the original $5 million to $50 million to the current $100 million, and is likely to go up again.

The uncertainty surrounding TRIA presents a slightly different picture when looking specifically at the stand-alone terrorism insurance market, which does not rely on the government backstop. While many businesses already have stand-alone coverage, many more could be expected to buy policies if the proposed changes to TRIA are enacted. Here, brokers have an opportunity to act early to secure coverage in this market on behalf of their clients.

As well as monitoring the political climate, insurers are also heeding the advice of experts, including Control Risks. It cautions: “The new threat is more likely to be homegrown, increasingly self-radicalized and low-tech. It is also more difficult to penetrate and less predictable …”

To counter this threat, insurers are scrutinizing the risk-management policies and procedures of their clients to see whether they are proactively addressing current conditions overall and in their specific industries. For example, the 2008 terrorist attack on the Taj Mahal Hotel in Mumbai led hotel groups worldwide to make changes to their security practices.

The threatened withdrawal of coverage for domestic acts of terrorism has also renewed concern about a specific aspect of TRIA. The act says domestic terrorist acts will be covered only if they are “certified” by the U.S. Secretary of State, Secretary of the Treasury and Attorney General. Since all three are part of the President’s cabinet, the concern is that political considerations could factor into their certification decision. While that wasn’t perceived as an issue when the provision was added in the 2007 reauthorization, the uptick in domestic terrorist threats has raised questions about potential political influence.

The FBI and other law enforcement groups have long interpreted terrorism broadly. In 2009 Congressional testimony, FBI Director Robert S. Mueller III, said that “(t)he nature of the terrorist threat facing the United States has also changed over these last eight years” and the country now faces a “challenge in dealing with home-grown extremists in the United States who, while not formally part of these terrorist organizations, believe in their ideologies and wish to harm the United States in furtherance of it.”

Among those homegrown extremist groups the FBI has identified are the Animal Liberation Front and the Earth Liberation Front. The FBI charges that these groups have been responsible for at least 25 acts causing $48 million in damage.

Clearly, their attacks are very different from 9/11 and other attempted acts by foreign terrorist groups. That has prompted some in the insurance industry to ask whether the TRIA program, which was designed originally to deal with foreign terrorist threats is able to respond to the domestic threats?

Again, the stand-alone terrorism insurance market — which does not discriminate between domestic versus foreign terrorism events or rely on government certification of an incident as a terrorist attack for coverage to be triggered — may present clients with a more secure way to manage their risks.

Between the escalating threat from “new” terrorists using new methods, coupled with uncertainty over the size and breadth of TRIA funding and coverage, insurers and businesses are unsettled. This uncertainty may force clients to think carefully about how much coverage they buy from the TRIA-backed insurance market and whether to invest in a stand-alone terrorism policy.

While the future is unclear, recent developments have the potential to substantially alter the terrorism insurance landscape.

Cruz leads the War, Terrorism and Political Violence insurance group at Hiscox USA.