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After Christchurch, Assessing AIG's Risk to Earthquakes

AIG ( AIG ) is a leading international insurance organization with operations in more than 130 countries. It provides life insurance, health insurance, auto & home insurance, retirement solutions and investment plans. It competes with other established insurance companies like MetLife ( MET ), The Hartford ( HIG ) and Prudential ( PRU ).

We have a price estimate of $30.36 on AIG's stock which is about 24% below the current market price.

AIG's property & casualty insurance division is branded as Chartis and accounts for about 42% of the company's stock value, according to our analysis. Through Chartis, the company sells commercial or industrial property insurance, excess liability insurance, workers' compensation, auto insurance, home insurance and other specialized forms of insurance. Since AIG has a significant exposure to the property & casualty insurance sector, any major catastrophic event such as an earthquake could adversely effect the company's performance.

AIG's Exposure to Natural Disasters

The recent earthquake in Christchurch, New Zealand has caused an estimated loss of $12 billion to the insurance companies and is seen as the costliest natural disaster since 2008 when Hurricane Ike hit the U.S. and reeked nearly $20 billion in damage. A 7.0 magnitude quake also hit Chistchurch on September 4 last year and caused damages of up to $6 billion. Hurricane Katrina remains most expensive catastrophe that the insurance industry has seen and cost $71.2 billion.

In the event of an earthquake, AIG would be the exposed to widespread claim costs associated with property, workers' compensation, mortality and morbidity claims. In addition to this, the company would have to bear loss resulting from the value of invested assets declining to below the amount required to meet policy and contract liabilities. There is also a potential risk of loss arising from a higher actual policy compensation cost in comparison to the assumptions made while pricing the product initially. To guard against these losses, AIG purchases reinsurance which is an important risk management tool to mitigate losses that may arise from catastrophes.

See our full estimates for AIG.

Decline in Operating Margin

In its 2009 annual report, AIG estimates the level of expected loss in a catastrophic event. An earthquake in San Francisco would cost AIG $6.7 billion in gross liability and $2.6 billion in liabilities net of reinsurance while an earthquake in Los Angeles would cost AIG $6.6 billion in gross liability and $2.9 billion in liabilities net of reinsurance. AIG's property & casualty operating margin would decline as a result of these losses.

We currently estimate that AIG's operating margin will be around 21% during our forecast period but an earthquake could potentially drop AIG's operating margin to anywhere between 12% to 17% depending upon the nature of catastrophes and the level of damage claimed and consequently our estimate of AIG's stock price could decline by 10%-20%.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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