A new book co-written by behavioral economist extraordinaire Daniel Kahneman points out a major problem that numerous industries, including insurance, only sort of know they have and is surely worse than they recognize. He calls the problem "noise."

He says insurers are very aware of potential bias based on age, race, gender, etc., especially as they evaluate algorithms driven by artificial intelligence -- insurers know to look for consistent favoritism toward, say, white men. But, he says, insurers tend to gloss over the problem of inconsistency, or "noise" -- the fact that people come to very different conclusions based on the same set of facts, even when bias is removed from the equation.

Kahneman, who won the Nobel Prize in Economics in 2002 and who has driven so much of the progress on behavioral economics for decades, cites a study he did in 2015 that presented a series of cases to 48 underwriters at a large insurance company. Executives predicted that there would be roughly a 10% variance between the high and low prices that the underwriters provided after assessing the risks -- but the typical variance was 55%. Many variances were even more extreme. One underwriter might set an annual premium at $9,500 and another at $16,700.

The tendency is to think that the decisions balance out, but Kahneman says such wide variance suggests that the insurer is actually making two mistakes. The $9,500 quote was likely underpricing and was either leaving money on the table or was winning unprofitable business. The $16,700 might be overpricing that costs the carrier business because competitors will offer better rates.

"Wherever there is judgment, there is noise, and more of it than you think," according to the book, "Noise: A Flaw in Human Judgment," which Kahneman wrote with Olivier Sibony and Cass R. Sunstein and which is being released today.

The book focuses heavily on judges' decisions on prison sentences, both because they are so consequential and because they clearly illustrate the difference between consistent bias (which many companies are becoming good at assessing) and noise (which companies tend to underestimate and thus gloss over).

A study found that a certain set of facts led judges, on average, to impose seven-year sentences. But there was an average variance of 3 1/2 years -- a long time. Some of the variance relates to bias: Conservative judges tend to consistently impose longer sentences. But some is just noise. Perhaps the judge has a personal story that makes him identify more with the defendant. Perhaps the judge has had a series of cases that made her more fed up based on the crime committed. Kahneman says variance even happens based on time of day, the day of the week, the mood of the person making the decision, etc.

While he doesn't try to quantify how much noise reduces profitability for insurers, the sheer size of the numbers involved in underwriting, designing policies, assessing claims, etc. suggests that the potential gains are enormous if decisions can be made more consistently.

Kahneman and his co-authors argue that the starting point for combatting the problem is to conduct a "noise audit." Insurers could do the sort of test that the authors did to assess how wide the variance is among their underwriters, adjusters, agents and perhaps others, decide what the effects on profitability likely are and determine how much effort should go into reducing the noise.

The book argues that algorithms will be a big piece of the solution -- while acknowledging the need to watch out for systemic bias, largely by being super careful about the reliability of the data being fed into the algorithms. Algorithms are nearly free of noise: An algorithm faced with the same information will almost always make the same decision. And, while algorithms can make bad decisions, they can always be learning, meaning that bad decisions can be gradually corrected and turned into good ones.

There will be pushback. Judges largely hated the mandatory guidelines that were established following a major study in the mid-1970s that found huge variance in sentences. Doctors object to being ordered to treat patients a certain way, even when the mandates are based on evidence.

But the evolving state of medicine could provide a solution for insurers: In the same way that AI can now offer suggestions to doctors on diagnoses and treatment -- while leaving the final decision to the humans -- insurers could use algorithms to generate a suggested range of actions for underwriters, adjusters and agents. The algorithms would provide some guardrails that would at least reduce the unprofitable outliers at insurance companies and would keep learning, continually narrowing the recommended range and moving the choices toward profitability

Although I rarely recommend books -- even ones I've written -- I think this book provides a road map for a relatively straightforward way to improve the accuracy of insurers' decisions. And, once you've become acquainted with Kahneman's work, you can go back and read his ground-breaking work, "Thinking, Fast and Slow," published in 2013.

While economists long based their work on the assumption of rational consumers who maximize their utility, we all know that assumption is silly -- people are far from completely rational. And Kahneman has led the way in helping us understand how people actually behave, as opposed to how we might imagine they behave or hope they behave.

Cheers,

Paul

P.S. Here are the six articles I'd like to highlight from the past week:

Why Open Insurance Is the Future

More are turning to "open insurance" solutions, under which insurers leverage open APIs to share data and services with third parties.

It’s Time for Next Phase of Innovation

It’s time to break through the first phase of technology adoption and move into a new phase of tech-enabled innovation.

Intersection of AI and Cyber Insurance

While AI is sure to benefit society when wielded properly, cyber carriers remain conscious that AI’s proliferation is a double-edged sword.

Achieving a ‘Logical Data Fabric’

A logical data fabric has the capacity to knit together disparate data sources in insurers' broad, hybrid universe of data platforms.

Managing Risks for Hydrogen Industry

There is, rightly, enthusiasm around hydrogen solutions for a low-carbon economy, but projects involve complex industrial and energy risks.

The Broad Reality of Diversity

As people return to the workforce, candidates with the potential to revolutionize our industry may present themselves.

In their quest to deliver customers the personalized experiences they crave, insurers have invested heavily in ramping up the digital capabilities needed to deliver tailored policies. But they may not be doing enough to break out of the outdated paradigms that have held back the customer experience.

To be sure, insurers have dramatically stepped up their innovation game since the arrival of the COVID-19 pandemic. In a recent survey of insurance CEOs conducted by KPMG, 85% said that the pandemic has accelerated their digitization initiatives, with 78% saying that the crisis has intensified their focus on crafting a “seamless digital customer experience.” 

The problem? With billions across the globe having spent the better part of the past year using digital technologies to work, learn and shop, the baseline expectations for what constitutes a quality digital experience have only been raised – making it challenging for many insurers to keep up.

That’s why more and more are turning to "open insurance" solutions, under which insurers leverage open APIs to share and access data and services with third parties – including insurtechs, financial institutions and organizations that possess useful data points that can help insurers more accurately gauge risk and develop personalized coverage. 

For legacy insurers facing mounting competition from digital-forward insurtechs, open insurance offers a promising pathway to shoring up their competitive posture over the long run. Here’s what insurers should know about the benefits of this model and how to go about pursuing it.

The Freedom and Flexibility to Evolve

Open APIs are hardly a novel concept. Open banking, for instance, increasingly uses the common practice to develop new apps and financial services through third-party applications, offering conventional banks the chance to work with fintechs rather than compete with them. 

What will open APIs mean for insurers? Here are just a few examples: By tapping into a rich variety of data, insurers can obtain a much more granular view of risk, paving the way to more accurate, tailored pricing for each individual policyholder. Armed with data-driven insights into their customers, insurers will be able to identify and pursue new revenue opportunities and product offerings, with open APIs facilitating a much faster time to market for new products and services. 

For instance, insurers can take individual software components and seamlessly incorporate them into their offerings, thereby shortening the customer journey, improving customer experience and even adjusting to offer to the customers they are targeting. Some components allow insurers to meet specific organizational needs and minimize the overhead associated with "inventing the wheel." This provides insurers the freedom and flexibility they need not only to adapt, but to position themselves ahead of the curve.

See also: Insurance Leaders Use Digital for…

How to Get Started

While insurers have long been hesitant to share data, embracing the open insurance model will require them to shed that reluctance and operate with a partnership mindset. In this digitized climate, success demands forging partnerships with relevant organizations both within and beyond the traditional insurance industry.  By combining their offerings with those of business partners outside the insurance industry, insurers can generate new value while achieving stronger and more diverse coverage. 

Incorporating open APIs allows access to insurtech products and technological capabilities, as well as more granular customer information, while still adhering to relevant privacy laws and regulations. Simply put, these APIs make it possible for insurers to significantly increase their technological prowess without having to start from scratch or make massive investments in recruitment or R&D.

Cloud computing serves as a vital enabler for this model of collaboration, allowing for quick deployment, rapid scale and easy access to third-party data and resources that insurers can leverage to develop new offerings. 

Insurers don’t have to face this transition alone. Technology partners can provide insurers with the know-how and capabilities they need to extract the most value from open APIs, roll out new offerings and dynamically evolve in response to changing market conditions and customer expectations.

Preparing for the Future

As the COVID-19 pandemic proves, disruption isn’t always predictable. And in a world that often seems to be moving faster than ever, more seismic shifts may be on the way. 

But while not everything is foreseeable, this much is: Insurers’ ability to survive and thrive in the ‘next normal’ will hinge on their ability to deploy innovative models of open collaboration. As insurers plot their digital strategies, they can’t afford to ignore the promise of open insurance.

The insurance industry has slowly embraced digital and mobile technology (strong emphasis on slowly) over the past 10 years. It’s time to break through the first phase of technology adoption and move into a new phase of tech-enabled innovation.

The early phase of technology adoption usually sees incumbent businesses apply technology to existing products and modes of thinking. So, with the first wave of digital adoption in health insurance, we saw plans launch member portals and mobile apps where users could view their explanation of benefits and chat with customer service representatives online. However, nothing about the underlying insurance plan changed.

When it comes to plan design, insurance companies too often think within existing platform limitations. They most often ask: “What can we design that will work on our existing platform?” Then they design the plan and move on to implementation. This is invariably the sequence when developing insurance products and bringing them to market.

The process makes sense at first, because the development of new platforms takes time and costs a lot of money. But these platform limitations are holding us back from designing new tech-enabled insurance products that can truly change the market and better serve customers.

Tech-Enabled Insurance Innovation Will Guide the Future

Starting from scratch is a startup’s advantage, which incumbent insurance companies don’t have.

Oscar Health Insurance is a great example of a startup making heavy investments in new technology and innovative plan designs to create a better member experience. Its telemedicine service and digital provider directories aim to improve access to free or low-cost care for members with high deductibles.

Major medical health insurance is far more regulated in its plan designs than other forms of insurance. If you could start another ancillary insurance product from scratch, however, what kind of plans would you design? If you follow the old way of thinking, you will design the plan first and then think about how to platform it next.

Granted, there are some advantages to this approach. You can create a better version of existing products, like, for example, critical illness insurance policies. Another advantage to tweaking a known insurance product is that you can often rent an existing technology platform to get to market quickly. But if you do that, you risk designing a product that’s not differentiated enough from existing solutions to entice employers and brokers to switch. You also miss an opportunity to create a better solution for your members that actually improves their health.

When we started Brella, for example, we knew we wanted to make a real difference in the health and financial wellness of our members. We saw that as the only reason to go through the trouble of developing a new insurance product — but we needed to build everything from scratch.

See also: Crisis Invigorates Insurance Innovation

The next phase of insurance product innovation is tech-enabled thinking. When you design a new insurance product, think of it in the context of its tech platform. That means you must have both insurance experts and technologists at the table. This is really powerful; it is what enabled us to come up with the concept of a supplemental health insurance plan that pays benefits on diagnosis.

An example of this is Beam Dental’s dental coverage insurance, which uses a connected toothbrush to reward groups with good brushing habits with rates better aligned to their lower-risk profile. Eden Health is also making strides with its primary care solutions that weave together healthcare navigation services with direct primary care. Its tech platform was nimble enough to quickly help employer customers with COVID-19 screening and testing to keep their teams healthy and working through the coronavirus pandemic.

At Brella, we learned from our customer research that out-of-pocket costs caused by rising health plan cost-sharing are a major pain point for families. Existing supplemental plans were not designed to cover that gap. In addition, those plans were rarely used, and, when they were, customers were far from satisfied with their claims experience and the complex rules associated with the plans.

As we thought about building a supplemental insurance plan to address this need, we asked ourselves: “What does a plan design that pays benefits on diagnosis allow technology to do?” and “What does technology allow us to do with the plan design?”

Our tech-enabled plan design lets us pay benefits sooner because the diagnosis happens early in the care journey. This approach also dramatically simplifies the claims and adjudications processes, so it’s easy for customers to file claims in minutes online and through our mobile app. What’s more, it opens opportunities for automation that didn’t exist in past supplemental insurance plans — which were stuck in the first phase of technology adoption.

These are the kinds of differentiated benefits that help customers and their families. That kind of value is worth the price of change for employers to embrace innovative insurance solutions.

Essentially, tech-enabled insurance plan design asks: “What can you do with the plan that unlocks new technical capabilities?” and “What can you do with technology that makes new plan features possible?”

In the next phase of insurtech innovation, more partnerships between insurance experts and technologists are necessary. We need more tables surrounded by actuaries and engineers to create solutions that will realize the world we all want — one where health hardships don’t become financial burdens.

Wake-Up Call on Ransomware Paul Carroll, Editor-in-Chief of ITL The ransomware attack that shut down the 5,500-mile Colonial Pipeline, the largest fuel pipeline in the U.S., contains two important seeds of opportunity. First, the federal government looks like it may get much more involved in preventing or at least prosecuting cyber attacks, specifically for important infrastructure like pipelines and electric grids, but perhaps more broadly, too. Second, the attack raises the profile of the ransomware problem to the point that insurance clients may no longer be able to ignore it — which they mostly have even as ransomware activity quintupled globally between the first quarter of 2018 and the fourth quarter of 2020, according to Aon. This higher profile will create the opportunity for insurers to work with clients to finally step up their defenses... continue reading > CREATING AN ENRICHED DIGITAL CUSTOMER EXPERIENCE Read expert advice on why carriers need to deliver a better (digital) customer experience, what that experience should look like, and how to create it. Read Now SIX THINGS Workers Comp Trends for Technology in 2021 by Shahin Hatamian and Rebecca Morgan An efficient workflow passes 60% to 70% of medical bills straight through; workers' comp has a long way to go. Read More Are Your Healthcare Vendor’s Claims Valid? by Al Lewis This article, the first in a series, looks at how regression to the mean is often misused to justify false claims about the success of wellness programs. Read More 4 Ways to Seize the Latent Demand by Sarah Parker Consumers recognize now more than ever the importance of adequate insurance coverage. Now is the time to seize on this opportunity. Read More Time to Reimagine the Finance Function by Yolaine Kermarrec What’s possible for finance has been redefined: Comprehensive data makes it easier to connect performance across the business. Read More Tapping Into Life, Health Innovation by Denise Olivares Those who welcome outsider participation in innovation can unlock new solutions without needing to reinvent their current businesses. Read More Insurance and Financial Protection by Jason Mandel If the life insurance crisis is hard to understand, we must make it easy to comprehend. The insurance industry must lead us through this crisis. Read More The Alarming Surge in Ransomware Attacks sponsored by Tokio Marine HCC - Cyber & Professional Lines Group Join Michael Palotay, Chief Underwriting Officer for Tokio Marine HCC - Cyber & Professional Lines, and Paul Carroll as they continue their discussion on ransomware, cyber attacks, and how businesses can protect themselves. Watch Now MORE FROM ITL May's Topic: Cyber In high school, a friend of mine had a poster on his wall that read, “Just because you’re paranoid doesn’t mean they aren’t out to get you.” That pretty well summarizes how the world of cybersecurity and insurance works. Companies may feel paranoid for looking over their shoulder all the time, expecting something bad to happen, but we all know that there are plenty of bad guys out to find all the victims they can. Take Me There Webinar Series: The Future of Blockchain Blockchain has incredible potential to impact traditional business functions and inspire new innovative opportunities – and a key benefit of the technology, providing a single source of truth kept up to date in real time and accessible through permissions by all stakeholders, has huge implications for the insurance and risk management industries. Watch Now Partner with ITL to create expert thought leadership content. Custom Content Promoted Content Display Advertising Custom Webinars Monthly Topic Sponsorships ITL Partner Packages and more Learn more and get the 2021 Media Kit GET INVOLVED Write for Us Our authors are what set Insurance Thought Leadership apart. Get Started SPREAD THE WORD Share Share Tweet Forward SUBSCRIBE TO SIX THINGS

Exhibitioners at the Century of Progress International Exposition held in Chicago from 1933-1934 touted washing machines and air conditioners as capable of bringing vast changes to our everyday lives. This optimism for future generations is inherent within the human psyche. As such, we often speak of artificial intelligence (“AI”) as a lofty, almost dream-like reality that awaits us in the not-so-distant future. 

But AI proliferates today and extends beyond the entertainment-based efficiencies embedded within Netflix and TikTok that we read about; attorneys apply AI to document review projects; vehicle manufacturers use AI to control a vehicle’s acceleration, speed and steering; hospitals and doctors are using AI to triage and diagnose patients; and biotech companies increasingly rely on AI to model the potential success of newly developed therapies and vaccines. 

Insurance carriers remain optimistic about the efficiencies to be gained by implementing AI-based applications into their workflows. The same is true for cyber insurance carriers, who over the last eight to 10 years entered the market to meet the needs of customers who seek protection from potential financial and operational ruin due to the rise of ransomware and other malicious activity perpetrated by cyber criminals. And, while AI is sure to benefit society when wielded properly, cyber carriers remain conscious that AI’s proliferation is a double-edged sword. Thus, cyber insurance will have an even greater role to play in an AI-dominated world.

The reasons are twofold:

First, harm from cyber attacks will be more widespread because of the threat posed by more sophisticated AI-based attacks. By using an AI-based attack, malicious actors will be able to operate in ways that are both highly efficient and highly scalable. For example, rather than disguising malware as an email attachment in a message from “your boss,” or hawking magic pills, a sophisticated AI-based attack may be capable of personalizing, instantaneously, the malicious email (or other vehicle) received by each target victim. 

Second, increasingly intelligent cyber attacks are likely to bring greater cost and consequences. Cyber-attacks today inflict financial harm and disrupt the productivity of the victim but generally do not alter people’s livelihood or society at large. We will see that blast radius grow exponentially in the future when malicious actors deploy cyber attacks against those AI-based systems that society increasingly relies on for day-to-day operations.

Look at the recent attack on the Colonial Pipeline and what it's done to gasoline prices in the eastern U.S. Citizens’ freedom of movement may be jeopardized when a future cyber attack against a vehicle manufacturer not only disrupts assembly line production but also paralyzes entire fleets of autonomous vehicles operating on the vehicle manufacturer’s software. Or, in a more dire situation, if there is malicious disruption of the AI-based systems at the core of a vehicle’s control system. Disrupted AI-based hiring systems could also result in significantly slower access to available low-wage jobs. And patients may suffer or die when a hospital loses its ability to intelligently triage and provide treatment. In sum, the outcomes from a cyber attack could be devastating.

See also: Surging Costs of Cyber Claims

But the future is not entirely bleak. Cybersecurity firms and professionals continue to improve on threat detection and elimination tools by harnessing AI. These types of tools and software are capable of intelligently digesting data points gathered from both past and current attacks across a massive scale. Decreasing response time via the real-time adjustment of threat detection applications is among the myriad ways AI is changing the cybersecurity landscape. 

The adoption of AI by the insurance industry is also bringing about a paradigm shift. The most prominent example is Lemonade, a property and casualty insurer that makes decisions about policy underwriting and claims processing based entirely on AI. Lemonade went public via IPO in summer 2020; it raised $319 million in a single day. Opportunities for innovation abound.

As society absorbs AI into the framework of industry and people’s lives it should expect to reap enormous benefits but also protect those benefits by preparing for and managing attendant risks.

Our industry is diversifying, and that diversity has been a force for growth and innovation. Decades of work and progress have yielded more women in leadership roles, a more diverse workforce and a greater emphasis on recruiting talent from varied backgrounds and geographies. Though calls for diversity are not new, organizations are taking the movement more seriously now than ever before, and it is having a positive impact in the operation and growth of businesses.

According to a 2018 study from the Boston Consulting Group, companies that have higher than average diversity in their workforce had 19% higher revenue from enhanced or new products than less diverse organizations. 

As the insurance industry continues to evolve, it will be important to continue to support D&I programs and the opportunities they create for businesses and the workforce. These efforts should also include a willingness to consider recruiting candidates from a diverse array of experiences, trainings, socio-economic backgrounds and more. 

A Personal Journey

In my previous life in television production, working for shows like “One Tree Hill” and “Friday Night Lights,” I learned many of the skills that eventually led to my career in business development, and later as president and chief operating officer with AmRisc.

A degree in broadcast journalism and an early career in TV and film production are definitely rare qualifications for someone in insurance leadership. That said, for me, that background manifested the skills and mindset I needed to operate in a fast-paced environment and think creatively to support business growth. 

How did I find my way into the insurance industry? I was looking to change my career, and my resume serendipitously found its way into the hands of former AmRisc CEO Dan Peed. They were looking for someone who could come in and roll with whatever was thrown at them. That happens to be my strong suit. I was immediately energized and motivated by the work as I grasped more than insurance concepts. I began to understand the legal, accounting, managerial, compliance and operational aspects of the business, as well. 

See also: Diversity and Respect: Best Insurance Policy

My time in television production allowed me to explore my passion for problem-solving and crafting stories. That experience served me well in insurance, where I’ve had an even greater opportunity to flex those same creative and problem-solving muscles. At the same time, as someone who came to insurance from a very different space, I was able to offer a unique perspective the company didn’t have available previously.

A Creative Edge

With our company being founded by engineers – also from non-traditional backgrounds for insurance – it’s fitting that one of our core values is innovation. Imagine the innovation that could come from a team of employees with a variety of diverse backgrounds, cultures, experiences and beliefs. Then, add to that the new perspectives and fresh thinking we get from those with different socio-economic backgrounds. These may be individuals whose talents have yet to be discovered as they leave high school or college and enter the workforce. A team like that could have the versatility to not only adapt to unique problems; they would have a plethora of experiences and perceptions to offer the business and contribute uniquely to the growth of their team and organization.

At AmRisc, we’ve started to harness the knowledge and experience of this talent. We began to recruit others outside of insurance, like me, over a decade ago. For example, we have a number of former schoolteachers who have joined the team and have been remarkably successful translating the detail-oriented skillsets they honed in the classroom to our underwriting and analyst teams.  We’ve also recently launched an Innovation Hub, our own version of Shark Tank, to encourage people from all parts of the organization to be seen and heard.

This is just one step. Engaging a range of professionals with varying work experience, cultures, religions and more allows you to build a well-rounded team that can take a company to the next level. Employees who are comfortable in their own skin at work, happy, driven and inspired – who also reflect your consumer base – will thrive, fuel productivity and drive growth.  

Building for the Future

Many in the industry have developed novel programs to foster D&I within their walls. Industry leaders recognize there is tremendous value in empowering and investing in people. At AmRisc, we've deployed a Corporate Citizenship Program and DEI Council with our parent company, Truist. We’ve also hosted an incredibly popular Day of Understanding for employees to voice their opinions and concerns and implemented unconscious bias training in an effort to enhance our corporate culture. We even revised our logo to a display of color that demonstrates our commitment to a diversified team and one that values involvement from employees of all genders, races, religions or backgrounds.

As a company and as an industry, we also find opportunities to develop and mold our D&I initiatives through unifying organizations like the Insurance Industry Charitable Foundation. IICF’s International Inclusion in Insurance Forum presents a wonderful opportunity for the industry to get together, hear from the top minds in D&I and receive actionable, fresh approaches to incorporate into our own workplaces.

Recruiting for Tomorrow

Anyone who has worked in insurance knows the historic difficulties surrounding the recruitment of new, aspiring talent. The COVID-19 pandemic has only exacerbated this problem, but the lasting impacts of remote work may prove to be the push our industry needs to recruit geographically diverse talent from different socio-economic and experience backgrounds.

Thus, many industry leaders are taking a closer look at our hiring methodologies and prerequisites. At AmRisc, we are endeavoring to do more. We’re partnering with major universities to recruit talented, diverse candidates with specializations in risk management and beyond. We are looking to secure talent who might not have been considered for a career in insurance due to work history or educational background but who have the drive and energy to help us grow. We’re also exploring flexible work arrangements so those with family, eldercare or other personal responsibilities can better manage their work-life balance.

See also: State of Diversity, Inclusion in Insurance

Right now is the perfect time to consider recruiting with a focus on diverse experiences in addition to unique backgrounds and cultures. As people return to the workforce, a range of candidates with the potential to revolutionize our industry and become the next generation of insurance professionals may present themselves. We have to remain open to recognizing them and embracing the uniqueness they bring to our organizations.

Our industry is built on resilience and serving others when they are most in need. As employers, we must ensure we consider the whole candidate or employee and find ways to encourage them to bring their diverse skills and talents to the office for the good of the company, the industry and society as a whole.

Time-consuming deals or claims-related interactions with agents are getting replaced by self-service insurance portals and sometimes even by bots. The growth of IoT, artificial intelligence (AI) and machine learning (ML) technology and the prevalence of sensors in wearables, cars, houses, agriculture, transportation and other areas are making risk profiling and precautionary measures much better and faster.

However, the sharing economy brought about by Uber, Airbnb, etc. is making insurance tricky. The pandemic is also forcing insurance companies to evolve to survive the current climate and prepare for an uncertain future. 

For many, part of this development has been adopting new technologies and digitizing services.

Insurance companies must rely heavily on their data to embrace these new trends. Unfortunately, many depend on older enterprise data architectures composed of legacy tools and methodologies. Business stakeholders need immediate information for real-time decisions, but this is just not possible when data is scattered across multiple data sources. Relying on rigid technologies such as ETL (extract, transform, load), makes it almost impossible for insurers to make real-time decisions on a claim or engage in predictive analytics with the most current data to underwrite the right insurance product for the right client.

These legacy technologies are resource-intensive, time-consuming and costly. ETL processes deliver data in scheduled batches, meaning there is always lag, which forces business users to wait for the data to be delivered. Depending on the configuration and schedule, batches can be delivered very quickly but never on an instantaneous, as-needed basis. In fact, many ETL processes are still done overnight. 

This leaves insurers with no choice but to initiate complex, expensive and time-consuming engagements with IT just to answer basic questions. On top of that, M&A and other forms of corporate restructuring are constant in the insurance industry, and legacy data architecture poses a huge threat to post-merger data architecture consolidation. As in other industries, cloud adoption and data lake implementation are becoming more prevalent, yet these cloud-first initiatives, application modernization projects and big data analytics are either fraught with downtime, implementation challenges or, in the best case scenarios, only partially successful. 

Data Fabric to Logical Data Fabric: The Modern Way to Keeping Businesses Covered

With volume, variety and velocity of data today, users need a unified view of all the data available to them in near real-time. Insurers are looking to capture the ever-changing data from streaming, data lakes and other newer data sources or data repositories and take advantage of all the data types available.

Technologists have attempted to meet the needs of their organizations in many ways. First, they used larger and larger databases. Then they set up data warehouses. Most recently, they have turned to data lakes, cloud repositories and big data implementations. Unfortunately, these latest solutions have only compounded the problem, as different sources of data are still stored in functional silos, separate from other sources of data. Even data lakes continue to contain multiple data silos, which many business users and analysts only realize when they attempt to run a single query across the entire data lake. 

To manage the complexity of today’s environments, companies are adopting newer architectural approaches such as data fabric to augment and automate data management. This modern data management approach streamlines data discovery, access and governance by automating much of the labor that would normally be performed at multiple individual junctures using older methods. Forrester analyst Noel Yuhanna defined enterprise data fabric as a set of processes that automate “integration, transformation, preparation, curation, security, governance and orchestration" of data, which are some of the most traditionally labor-intensive aspects of business intelligence, due to the highly diverse, heterogeneous nature of today’s data landscape.  

Most recently, research firms began to evolve their notion of data fabric to that of a “logical data fabric.” Analysts devised this concept based on the idea that even if technology vendors were to automate key aspects of the data pipeline - or turn these processes into services - the resulting data fabric will eventually be limited by certain physical realities; namely, the need to replicate data. To ensure the business continues to gain significant efficiencies, organizations need to change the paradigm from a physical data fabric to a logical data fabric. TDWI analyst David Stodder outlined some of the features of logical data fabric, saying that it had the capacity to “knit together disparate data sources in their broad, hybrid universe of data platforms.” 

Why Data Virtualization Is the Key to Stitching Together a Logical Data Fabric

Data virtualization (DV) is a data integration solution, but one that uses a completely different approach than most methods, making it a perfect fit for logical data fabric application. The technology is an approach to data management that allows an application to retrieve and manipulate data without requiring technical details about the data, such as how it is formatted at source, or where it is physically located. Rather than physically moving the data to a new, consolidated location via an ETL process, data virtualization provides a real-time view of the consolidated data, leaving the source data exactly where it is and containing the necessary metadata for accessing the various sources, making it straightforward to implement. 

Performing many of the same transformation and data-quality-control functions as traditional data integration solutions, DV differs because it can also provide real-time data integration at a lower cost. As a result, it can either replace traditional data integration processes and their associated data marts and data warehouses, or simply augment them, by extending their capabilities. Sophisticated data virtualization solutions go one step further by establishing an enterprise data-access layer that provides universal access to all of an organization’s critical data. When insurers need to obtain data, they query the data virtualization layer, which, in turn, gets the data from the applicable data sources. Because the data virtualization layer takes care of the data-access component, it abstracts business users from complexities such as where the data is stored or what format it is in. Depending on how a data virtualization layer is implemented, business users can ask questions and receive answers easily, because the underlying data virtualization layer handles all the complexity. 

See also: Stop Being Scared of Artificial Intelligence

Additionally, modern DV solutions offer dynamic data catalogs that not only list all of an organization’s available data sources but provide access to the data from right there in the catalog. They also leverage their unified metadata capabilities to enable stakeholders to implement data quality, data governance and security protocols across an organization’s disparate data sources, from a single point of control. That is particularly important for insurance companies, which are expected to understand and protect their customers personally identified information (PII), such as credit cards, healthcare and Social Security numbers, credit scores and banking information. That helps organizations comply with regulations such as GDPR, CCPA and U.K. Data Protection Act, to name a few. Finally, some of the best DV solutions offer premium features such as query acceleration through aggregation awareness, AI/ML driven dataset recommendation and auto-scaling architecture in the cloud. 

Supported by data virtualization, a logical data fabric can enable a wide range of benefits, including: 

1. Real-time data integration across disparate systems. Logical data fabric enables real-time access to data across vastly different kinds of sources, including cloud and on-premises systems; streaming and historical data systems; legacy and modern systems; structured, semi-structured and completely unstructured sources; and cloud systems provided by different vendors. It can handle flat files, social media feeds, IoT data and more. 
2. Enterprise data catalogs. Logical data fabric enables comprehensive data catalogs across the entire enterprise and provides seamless access to the data itself. Business users can use the catalog to understand what data is available and any conditions under which it can be used. They can also capture the full lineage of any dataset as well as all applicable associations.   
3. Seamless governance and security. Because data in a logical data fabric is accessed through a unified data access layer, organizations can easily control who is allowed to view or edit which data.    
4. Powerful AI/ML capabilities. With a unified, logical framework, a logical data fabric enables AI/ML capabilities at a variety of different points within the offered solution, including query optimization, data delivery and automated recommendations within the data catalog.   
5. Simplified maintenance. Logical data fabric protects users and administrators from the complexities of accessing each individual source and operates with each data source “as it is.” Unlike ETL scripts -- which need to be re-written, re-tested and re-deployed whenever a source is removed or changed -- logical data fabric accommodates these changes, greatly simplifying the overall administrative burden. 

The data landscape is only going to get more complex for insurers, and business users will only want broader, faster access to all of the data available without unnecessary risk or liability. Implementing a logical data fabric built on data virtualization has proven to deliver information immediately to meet business demands and does so without the cost of a monolithic hardware upgrade. More importantly, it promises to reduce the total costs of the data infrastructure by leaving the source data exactly where it is. Put simply, the logical data fabric can act as an indemnity to data management and to leveraging your precious data assets.

Revered economist Thomas Sowell once observed, “Some things are believed because they are demonstrably true, but many other things are believed simply because they have been asserted repeatedly, and repetition has been accepted as a substitute for evidence.”

Sowell’s thinking may have bearing on why taxpayers and property owners have lost hundreds of billions of dollars as Congress has attempted to manage America’s flood risk over the past 43 years. It may also explain why taxpayers and property owners will continue to lose hundreds of billions more, at least until the tragically inaccurate, but-oft repeated idea that flood insurance rates should be artificially low is replaced by what evidence-based science and common sense have revealed during the last decade.

Government-controlled programs operating in what would otherwise be the domain of private enterprise have repeatedly led to unintended market distortions and financial distress; the National Flood Insurance Program (NFIP) is a prime example. While Congress and federal administrative staff have known empirically for many years that the NFIP has, and continues to, encourage behaviors that produce upside-down outcomes on a massive scale, overcoming intrenched misperceptions has proven very difficult. Unless the NFIP raises their rates and begins giving refunds to folks who buy private market flood coverage prior to the last day of their NFIP coverage, we will continue to see varying tragic outcomes that could have easily been avoided.

Congressional hearings have illuminated numerous acute problems surrounding the NFIP, such as insolvency, contributing to increased risk of flooding across the country, and insufficient and inaccurate flood mapping, to mention just a few. During these hearings, those who testified, as well as members of Congress, identified a correlation between the NFIP’s problems and the artificially low rates they charge – a reality that would likely not be the case if the NFIP followed congressional directives to meaningfully raise rates at a reasonable pace annually. Ironically and perhaps predictably, the unintended negative outcomes generated by the NFIP continue to grow – now spreading to GSEs (government-sponsored enterprises) Fannie Mae and Freddie Mac. 

The Trouble With Fannie and Freddie

Though publicly traded companies, Fannie Mae and Freddie Mac operate under a congressional charter that provides a financial backstop from the government – one that was invoked during the financial crisis of 2008 to the tune of $187 billion, according to The Shadow Open Market Committee. Fannie Mae and Freddie Mac were designed by Congress to expand the secondary market for mortgage debt and ultimately boost homeownership among buyers from a variety of demographics. While the GSEs have succeeded in boosting homeownership, they’ve been allowed by Congress to become “too big to fail.”

A recent article in POLITICO noted that Fannie Mae and Freddie Mac hold more than 60% of the mortgages in flood-prone areas across the U.S. Because these homes are technically located outside NFIP-designated “special flood hazard areas”  but inside the actual “100-year flood plain,”  these homeowners are not required by their lenders to purchase flood insurance. As a result, Fannie Mae and Freddie Mac are exposed to potentially existential risk from the peril of flood. Only owners of properties that are within an NFIP flood zone are required to buy flood insurance. That said, their equally flood-exposed neighbors are not forced to buy flood insurance, and as a result do not.

If a significant number of these uninsured, flood-exposed homes were to be seriously damaged by a flood, the owners might not have the resources to repair their homes and may have no incentive to do so if the cost of repairs is equal to or greater than the equity they have in the home. If climate change translates to more frequent or more severe floods, the implications for Fannie and Freddie are ominous.

In their article, POLITICO observes that taxpayers could be on the hook for more than $1 trillion in home mortgages as Fannie and Freddie fail to consider climate risk when purchasing mortgages from lenders. This practice could lead the country into recession even in the absence of a crescendo of floods. More and more savvy homebuyers and lenders are now using new technology to assess the climate risk on properties before they buy a home or originate a loan. This may translate to a downward spiral in flood-prone property values across broad sections of the country. Additionally, Fannie and Freddie may see an even greater concentration of flood-prone mortgages within their portfolios.

Reforming the NFIP will be both a political and a public policy problem until the practice of offering artificially low flood insurance premiums to some and overcharging others, as well as denying policyholders the option to easily switch to competing products, is discontinued. 

See also: Insurance Outlook for 2021

Reworking the NFIP

Congress created the NFIP as a way to shift the U.S. flood insurance market to private insurers. Unfortunately, in 1978, regulators used a loophole in the law that enabled them to remove private flood insurers from the market. This was not the original intent of Congress nor the desire of private flood insurers. Operating as what is essentially a nationalized flood insurance system, the NFIP has cost taxpayers about $1 billion per year since its inception.

What if the private market had continued to be involved in the nation’s flood insurance paradigm? I would venture to say that pricing would have at least kept up with losses. Likely, prices would have been high enough to discourage rampant building in dangerous locations. As a result, more coastal and riverine land would have been left to nature and thereby would have served to reduce the severity of flood events. And importantly, with fewer houses built in hazardous locations, we would have avoided the present-day financial risk to our nation’s economy faced by Fannie and Freddie.

When it comes to responding appropriately to climate risk, the NFIP experience has demonstrated that a government-controlled system is the wrong approach. The NFIP is now a political football, used as a favor for folks located close to sources of flooding at the expense of those located in less-flood-prone areas. This kind of unintended outcome is what often happens when the government takes over where the free market was willing to participate. Now, we are seeing manifold pernicious effects manifesting themselves in the mortgage finance market with staggering implications. 

Congress must focus on reforms that allow buyers to change flood insurance carriers at the time of their choosing and encourage the private sector to assume flood risk over the long term by assuring that the NFIP does as Congress has already instructed them to do – to raise rates to actuarially sound levels and serve as the flood insurer of last resort.

Hydrogen is of growing importance for the substitution of fossil fuels in the fields of energy, supply, mobility and industry. Hydrogen has the potential to morph from a niche power source into big business, with countries committing billions to scale up their infrastructure and with projects being introduced around the globe. But there are challenges to overcome for hydrogen, such as the cost of production, supply chain complexity and a need for new safety standards.  

Allianz Global Corporate & Specialty (AGCS) just released a risk bulletin that highlights some of the opportunities and challenges of a trend at the forefront of the energy industry and assesses the risk environment of technologies associated with the production, storage and transportation of green hydrogen.

Backed by governments: Over 30 countries have produced hydrogen road maps

The global shift toward decarbonization has triggered strong momentum in the hydrogen industry. Hydrogen offers several options for the transition toward a low-carbon economy: as an energy carrier and storage medium for conversion back to electricity, as a fuel for all means of transport and mobility and as a potential substitute for fossil hydrocarbons in industries such as steel production or petrochemicals. 

Around the world, there is strong governmental commitment for hydrogen initiatives, backed by financial support and regulation: As of the beginning of 2021, over 30 countries have produced hydrogen road maps, and governments worldwide have committed more than $70 billion in public funding, according to McKinsey. There are more than 200 large-scale production projects in the pipeline. 

In the U.S., more than 30 states have already adopted plans to promote hydrogen technology. The goal is to build a broad-based hydrogen industry that will generate $140 billion in annual income and employ 700,000 people by 2030. China is also planning to invest several billion yuan in the promotion of fuel cell technology over the next four years, which should result in innovative hydrogen production facilities throughout the country. 

Assessing the risk environment 

Many of the technologies used for the generation of hydrogen or energy from hydrogen are well-known in principle. AGCS risk consultants have considerable experience with handling hydrogen projects in a number of different areas. From a technology perspective, the operational risks include:

Fire and explosion hazards

The main risk when handling hydrogen is of explosion when mixed with air. In addition, leaks are hard to identify without dedicated detectors because hydrogen is colorless and odorless. A hydrogen flame is almost invisible in daylight. Industry loss investigation statistics show approximately one in four hydrogen fires can be attributed to leaks, with around 40% being undetected prior to the loss.

Fire and explosion protection needs to be considered on three different levels. Preventing the escape of inflammable gases as much as possible. Ensuring safe design of electrical and other installations in areas where ignition sources cannot be excluded. Constructing buildings and facilities to withstand an explosion with limited damage.

Proper handling of hydrogen gas is critical, and any emergency requires appropriate fire safety equipment.

An AGCS analysis of more than 470,000 claims across all industry sectors over five years shows how costly the risk of fire and explosion can be. Fire and explosions caused considerable damage and destroyed values of more than €14 billion ($16.7 billion) over the period under review. Excluding natural disasters, more than half (11) of the 20 largest insurance losses analyzed were due to this cause, making it the #1 cause of loss for businesses worldwide.

Material embrittlement

Diffusion of hydrogen can cause metal and steel (especially high-yield steels) to become brittle, and a wide range of components could be affected, for example, piping, containers or machinery components. In conjunction with embrittlement, hydrogen-assisted cracking (HAC) can occur. For the safety of hydrogen systems, it is important that problems such as the risk of embrittlement and HAC are taken into account in the design phase. This is ensured by selecting materials that are suitable under the expected loads as well as considering appropriate operating conditions (gas pressure, temperature, mechanical loading). High-yield strength steels are particularly at risk of hydrogen-related damage. 

Business interruption exposures

Hydrogen production or transport typically involves high-tech equipment, and failure to critical parts could result in severe business interruption (BI) and significant financial losses. For example, in case of damage to electrolysis cells (used in water electrolysis) or heat exchangers in liquefaction plants it could take weeks, if not months, to replace such essential equipment, resulting in production delays. In addition, business interruption costs following a fire can add significantly to the final loss total. For example, AGCS analysis shows that, across all industry sectors, the average BI loss from a fire incident is around 45% higher than the average direct property loss – and in many cases the BI share of the overall claim is much higher, especially in volatile segments such as oil and gas. 

See also: How Insurers Can Step Up on Climate Change

Significant increase in demand for insurance expected 

While standalone hydrogen projects have been rare in the insurance market to date, hydrogen production as part of integrated refining and petrochemical facilities, and as a part of AGCS’ coverage of industrial gas programs in its property book, has long been a staple of AGCS’ insurance portfolio. Given the numerous projects planned around the world, insurers can expect to see a significant increase in demand for coverage to construct and operate electrolysis plants or pipelines for hydrogen transportation.  

As with any energy risk, fire and explosion is a key peril. Business interruption and liability exposures are also key, as are transit, installation and mechanical failure risks. We are developing a more detailed underwriting approach for hydrogen projects, ensuring that we can serve clients globally. There is rightly great enthusiasm around hydrogen solutions as a key driver toward a low-carbon economy, but we shouldn’t overlook that these projects involve complex industrial and energy risks and require high levels of engineering expertise and insurance know-how to be able to provide coverage. We will apply the same rigor in risk selection and underwriting for hydrogen projects that we do on our existing energy construction and operational business.

For the full overview of loss prevention measures for the hydrogen economy, download the new risk bulletin here.

The ransomware attack that shut down the 5,500-mile Colonial Pipeline, the largest fuel pipeline in the U.S., contains two important seeds of opportunity.

First, the federal government looks like it may get much more involved in preventing or at least prosecuting cyber attacks, specifically for important infrastructure like pipelines and electric grids, but perhaps more broadly, too.

Second, the attack raises the profile of the ransomware problem to the point that insurance clients may no longer be able to ignore it -- which they mostly have even as ransomware activity quintupled globally between the first quarter of 2018 and the fourth quarter of 2020, according to Aon. This higher profile will create the opportunity for insurers to work with clients to finally step up their defenses.

Let me be clear, lest I come across as Polyannaish: This was a serious assault on a major piece of infrastructure and will likely result in higher gasoline prices, at least in the eastern half of the U.S. The attack also raises the prospect of devastating assaults on other pieces of key infrastructure, both in the U.S. and around the world. In addition, because the ransomware attack was arranged by a criminal ring in Russia, the attack brings into play all sorts of geopolitical issues that go well beyond what happens when some lone criminal hacks his way into a single corporation.

I'm merely suggesting that good things could also come out of the attack by the DarkSide group in Russia, because it underscores two problems that have long been obvious but that have somehow been ignored. The actions spurred by the attack won't be perfect solutions by any means, but they should help.

The main action looks to be an aggressive response by the federal government, which has struck me as too passive as criminal gangs have greatly stepped up their ransomware attacks. There are limits to what the government can do against international gangs like DarkSide -- it's not as though President Biden can just call Vladimir Putin to complain and have him say, "Oh, sure, I'll get right on it" -- but having the Feds in the game should help a lot.

The other main action -- the big opportunity for insurers -- will occur because companies will increasingly see their vulnerability (finally!) and request help from the experts: the insurance companies that deal with cyber issues every day.

Thought leaders have been warning about ransomware for ages here at ITL -- look at "5 Questions That Thwart Ransomware," "A Dangerous New Form of Ransomware" and "Ransomware Becomes More Pernicious."

Look, in particular, at this recent article: "How to Combat the Surge in Ransomware," from Tokio Marine HCC's Cyber and Professional Lines Group. It describes what I think is the ideal approach for insurers assisting their clients, not just by selling insurance but by helping them reduce their risks -- steering clients toward state-of-the-art tools (priced based on the insurer's bulk discount) that monitor vulnerabilities, toward using multi-factor authentication, toward training, etc.

As long as the bad guys have shown they can work together and take down big targets like the Colonial Pipeline, the good guys need to work together, too. That surely means more help from the federal government on what is a national and, increasingly, international problem but also means insurers need to step up and deliver the sort of expertise and counsel that they possess uniquely and that define the industry's noble purpose.

Cheers,

Paul

P.S. Here are the six articles I'd like to highlight from the past week:

Workers Comp Trends for Technology in 2021

An efficient workflow passes 60% to 70% of medical bills straight through; workers' comp has a long way to go.

Are Your Healthcare Vendor’s Claims Valid?

This article, the first in a series, looks at how regression to the mean is often misused to justify false claims about the success of wellness programs.

4 Ways to Seize the Latent Demand

Consumers recognize now more than ever the importance of adequate insurance coverage. Now is the time to seize on this opportunity.

Time to Reimagine the Finance Function

What’s possible for finance has been redefined: Comprehensive data makes it easier to connect performance across the business.

Tapping Into Life, Health Innovation

Those who welcome outsider participation in innovation can unlock new solutions without needing to reinvent their current businesses.

Insurance and Financial Protection

If the life insurance crisis is hard to understand, we must make it easy to comprehend. The insurance industry must lead us through this crisis.