Catastrophe model (cat model)

A catastrophe model simulates a large set of potential natural disasters, hurricanes, earthquakes, floods, wildfires, and estimates the financial loss each would cause to a specific portfolio of insured properties or assets. Insurers and reinsurers use it to price risk and hold appropriate capital rather than relying on historical loss experience alone, which is too short and too thin for rare, severe events.

The model has three core components: a hazard module that generates thousands of simulated events with realistic frequency and intensity, sometimes built on coastal flood modeling or seismic simulation; a vulnerability module that translates hazard intensity at a location into expected physical damage; and a financial module that applies policy terms, deductibles and limits, to the damage estimate to produce a loss. Running the full simulated event set produces a loss distribution, from which metrics like return period losses and probable maximum loss are drawn.

Catastrophe models drive reinsurance pricing, regulatory capital requirements, and increasingly corporate physical climate risk disclosure, and their output is only as good as the exposure data, the detailed inventory of insured locations, values and construction types, fed into them. A common pitfall is treating model output as a precise prediction rather than one plausible view of risk among several: different vendors' models can disagree substantially for the same portfolio, especially for perils with limited historical data.