Catastrophe Hazard

Imagine you’re shooting craps. You’ve been hitting 7 and 11 for eight rolls in a row. More and more people start to put money onto the table. Suddenly, you roll a 2 on your opening roll. You’ve crapped out. Everyone has lost all of their money, and they're giving you dirty looks like you wanted it to happen.

Now, imagine that an insurance company was guaranteeing those losses all at once. It’s not the best business model in the world, but it’s better than half the insurance products on the market.

Well, the person insuring these bets (just like they insure houses in hurricane zones) is subject to what is known as “catastrophe hazard.” It’s just a fancy way of saying “We could lose a lot if a natural disaster comes and wipes out the town that we’ve been insuring.” This is tied to high-risk, low-probability events as well, like terrorist attacks, or the city being attacked by a very large, angry lizard.