AIG 2008 Annual Report Download - page 99

possible, and uses what AIG believes is a reasonably likely range of potential deviation for each class. There can be
no assurance, however, that actual reserve development will be consistent with either the original or the adjusted
loss trend or loss development factor assumptions, or that other assumptions made in the reserving process will not
materially affect reserve development for a particular class of business.
Excess Casualty: For the excess casualty class of business, the assumed loss cost trend was approximately
five percent. After evaluating the historical loss cost trends from prior accident years since the early 1990s, in AIG’s
judgment, it is reasonably likely that actual loss cost trends applicable to the year-end 2008 loss reserve review for
excess casualty will range from negative five percent to positive 15 percent, or approximately ten percent lower or
higher than the assumption actually utilized in the year-end 2008 reserve review. A ten percent change in the
assumed loss cost trend for excess casualty would cause approximately a $2.4 billion increase or a $1.6 billion
decrease in the net loss and loss expense reserve for this class of business. It should be emphasized that the ten
percent deviations are not considered the highest possible deviations that might be expected, but rather what is
considered by AIG to reflect a reasonably likely range of potential deviation. Actual loss cost trends in the early
1990s were negative for several years, including amounts below the negative five percent cited above, whereas
actual loss cost trends in the late 1990s ran well into the double digits for several years, including amounts greater
than the 15 percent cited above. Thus, there can be no assurance that loss trends will not deviate by more than ten
percent. The loss cost trend assumption is critical for the excess casualty class of business due the long-tail nature of
the claims and therefore is applied across many accident years.
For the excess casualty class of business, the assumed loss development factors are also a key assumption.
After evaluating the historical loss development factors from prior accident years since the early 1990s, in AIG’s
judgment, it is reasonably likely that actual loss development factors will range from approximately 4.4 percent
below those actually utilized in the year-end 2008 reserve review to approximately 6.4 percent above those factors
actually utilized. If the loss development factor assumptions were changed by 4.4 percent and 6.4 percent,
respectively, the net loss reserves for the excess casualty class would decrease by approximately $900 million under
the lower assumptions or increase by approximately $1.5 billion under the higher assumptions. Generally, actual
historical loss development factors are used to project future loss development. However there can be no assurance
that future loss development patterns will be the same as in the past, or that they will not deviate by more than the
amounts illustrated above. Moreover, as excess casualty is a long-tail class of business, any deviation in loss cost
trends or in loss development factors might not be discernible for an extended period of time subsequent to the
recording of the initial loss reserve estimates for any accident year. Thus, there is the potential for the reserves with
respect to a number of accident years to be significantly affected by changes in the loss cost trends or loss
development factors that were initially relied upon in setting the reserves. These changes in loss trends or loss
development factors could be attributable to changes in inflation or in the judicial environment, or in other social or
economic conditions affecting claims. Thus, there is the potential for variations greater than the amounts cited
above, either positively or negatively.
D&O and Related Management Liability Classes of Business: For D&O and related management liability
classes of business, the assumed loss cost trend was approximately four percent. After evaluating the historical loss
cost trends from prior accident years since the early 1990s, including the potential effect of recent claims relating to
the credit crisis, in AIG’s judgment, it is reasonably likely that actual loss cost trends applicable to the year-end
2008 loss reserve review for these classes will range from negative 11 percent to positive 24 percent, or
approximately 15 percent lower or 20 percent higher than the assumption actually utilized in the year-end
2008 reserve review. A 20 or 15 percent change in the assumed loss cost trend for these classes would cause
approximately a $950 million increase or a $600 million decrease, respectively, in the net loss and loss expense
reserves for these classes of business. It should be emphasized that the 20 and 15 percent deviations are not
considered the highest possible deviations that might be expected, but rather what is considered by AIG to reflect a
reasonably likely range of potential deviation. Actual loss cost trends for these classes since the early 1990s were
negative for several years, including amounts below the negative 11 percent cited above, whereas actual loss cost
trends exceeded the 24 percent figure cited above for several other years. Because the D&O class of business has
exhibited highly volatile loss trends from one accident year to the next, there is the possibility of an exceptionally
high deviation.
For D&O and related management liability classes of business, the assumed loss development factors are also
an important assumption but less critical than for excess casualty. Because these classes are written on a claims
AIG 2008 Form 10-K 93
American International Group, Inc., and Subsidiaries