(By Mani) American International Group, Inc.'s (NYSE: AIG) net exposure to Hurricane Sandy came in twice than the market expectations, suggesting that its gross losses could be outsized.
AIG says its net exposure to Hurricane Sandy totals $2.0 billion pre-tax or $1.3 billion after-tax, exceeding the market estimate of $1 billion. The number seems high on a relative basis to gross/net pre-tax exposure announcements of $1.275 billion/$1.075 billion for Allstate Corp. (NYSE: ALL) and $1.135 billion/$1.0 billion for Travelers Companies, Inc. (NYSE: TRV).
AIG's commercial multi-peril exposure is much lower than Travelers's in the New York/New Jersey area, and AIG's personal lines exposure is so small relative to Allstate's as not to be at all comparable.
However, AIG's exposure to unique large properties will be higher than perhaps any of its competitors, given its traditional willingness to use its balance sheet to underwrite risks larger than the tolerance level of many of those same competitors. Moreover, Hurricane Sandy loss is equivalent to about $1.00 per share, or a quarter's worth of earnings.
"At this point, Hurricane Sandy remains a complicated loss to analyze. The damages associated with business interruption have not finished being accrued, and we expect meaningful litigation to arise regarding claimability for many losses," Deutsche Bank analyst Joshua Shanker wrote in a note to clients.
If Hurricane Sandy proves to be a smaller industry event than modelers are forecasting, AIG's exposure might be construed as outsized. AIG incurred $370 million in losses related to Hurricane Irene in the third quarter of 2011. Hurricane Irene is estimated to have been around a $4.5 billion industry loss event, which put AIG at an 8.2 percent market share for that event.
There is a wide range for insured loss estimates for Hurricane Sandy among catastrophe modelers: AIR at $16 billion to $22 billion, Eqecat at $10 billion to $20 billion and RMS at $20 billion to $25 billion plus.
"Our view is that Hurricane Sandy is unlikely to exceed $20 billion in insured losses based on early indications from Allstate, Progressive and Travelers as well as claims count data from State Farm. However, AIG's estimate of a net loss of $2 billion seems to point to a Hurricane Sandy impact toward the higher end of modelers' estimations," Shanker noted.
Meanwhile, there is no detail about the size of its gross loss before the impact of reinsurance. AIG is not helping investors understand its risk management by keeping its reinsurance arrangements shrouded in secrecy. The company believes that the way it buys reinsurance is a trade secret that could reveal some of its underwriting strategies to competitors.
"As we understand from sources other than AIG's SEC filings, the company has purchased protection against a singular North American catastrophe event, whereby it retains the first $2.0 billion of its exposure to the loss and is covered for the next $2.5 billion. This means that AIG's gross exposure to Hurricane Sandy spreads over a very wide range," Shanker said.
The gross loss could be as low as sub-$2 billion with AIG injecting a very generous IBNR (incurred-but-not-reported) allocation into that estimate to shield from the currently high degree of uncertainty. Alternatively, the company could have a very large gross loss of up to $4.5 billion on its hands, of which reinsurance is covering more than half the loss.
"We think a $4.5 billion gross loss is a highly unlikely scenario (we mention it only for the sake of argument), but knowing AIG's gross loss will help us understand the degree to which its exposure might be outsized and whether there is risk management concern.
If the gross loss is little above $2.0 billion, we could conclusively say we are not concerned about catastrophe risk management and, in fact, that the company may merely be behaving conservatively, which may result in favorable Sandy-related reserve development in future quarters.
Ultimately, AIG would come forth with enough information by which investors can piece a rough sketch together of the size of the gross loss and the extent to which Hurricane Sandy losses represent case losses as compared with IBNR.

In a separate development, the U.S. Treasury is expected to sell its last remaining stake in AIG, fetching a total profit to taxpayers of $22.7 billion on the bailout. The Treasury said it had realized a profit of $5 billion on the $182 billion bailout while the Federal Reserve had made $17.7 billion.