Spotlight: Parametric Insurance Solutions are Simplifying Risk Transfer, Providing Rapid Liquidity and Flexibility
Michael Gruetzmacher
Head of Alternative Risk Transfer & Innovation, Commercial Risk Solutions
Complicated times call for creative solutions. The events unfolding across the financial institutions landscape have introduced market volatility and required immediate attention to mitigate risk, as highlighted in the Spotlight: Bank Failures section. These events are happening against a complex backdrop of heightened uncertainty related to high inflation, geopolitical tensions, ongoing cyber threats, and the increasing frequency and severity of natural catastrophes. Organizations must remain steadfast in their commitment to resilience across the entirety of the firm’s risk environment. In addition to providing solutions to help address direct and indirect banking-related risks, Aon is supporting clients as they navigate the challenges of the risk landscape at large, including helping them explore and leverage solutions such as data-driven decision frameworks, risk transfer capacity, and innovative concepts like parametric insurance.
Parametric insurance is a solution that deconstructs traditional risk transfer by unlocking capacity via an independent event-based trigger, suitable when 3rd party data sources exist that can serve as a proxy for a risk event. With this solution in place, when the event occurs, the independent data responds, triggering the policy, giving the insured quick access to capital. Parametric solutions are particularly well suited for risks associated with natural catastrophe and weather perils, but innovations in this space are expanding these concepts into new areas.
This creative take on risk transfer allows for a different type of performance from insurance where the solution becomes very simple and straightforward, the claims process happens much faster (payment within weeks of the triggering event), and clients see greater strategic capital value in the liquidity provided by the solution.
To help illustrate, below are four examples of parametric insurance solutions in action.
1
Addressing Climate Uncertainty
A manufacturer with operations located on the Gulf of Mexico was concerned about the increasing frequency and severity of climate-change impacted hurricane activity, while also frustrated by prior claims experiences from traditional insurance, which did not address their needs. To better enhance resiliency and unlock liquidity in a future crisis, the client purchased a parametric insurance policy designed to provide capital quickly in future hurricane scenarios, with coverage triggered based on National Hurricane Center data.
2
Mitigating Increased Retentions Due to Traditional Market Instability
A western Canada-based real estate client was required to take higher property retentions due to restricting capacity in the traditional marketplace for their earthquake exposure. To address the risk of exceeding risk-bearing capacity, the client purchased a parametric solution to hedge the growing retained exposure to an earthquake based on published by the United States Geological Survey.
3
Navigating Emerging Risks and “Secondary Perils”
A client developing renewable energy assets in Texas encountered several challenges including a lack of sufficient capacity to address risks related to secondary perils like tornados and economic damages if the construction of the assets was delayed due to weather events such as excess precipitation. Both of these dynamics were addressed with parametric insurance solutions - parametric capacity, to address the need for tornado risk coverage, and a solution to offset exposure to weather-related construction delays. With these solutions in place, the client is better positioned to respond to demands to support the buildout of renewable energy capacity.
4
Mitigating the Protection Gap and “Grey Swans” from Natural Catastrophe Events
A California-based technology company was concerned about the broad economic damages they may face from the myriad impacts of an earthquake on employees, local infrastructure, and their own operations. Rather than leaving this “protection gap” to chance, the client purchased a parametric insurance solution to generate rapid liquidity from an event, providing flexibility to act as needed during a time of crisis, including providing financial assistance to support return-to-work efforts.
Not only have clients benefitted via the performance of these solutions, but parametric insurance improves risk transfer for all parties to the transaction by drawing a crucial distinction between volatility and uncertainty. In the case of parametric insurance, the capacity is focused on risks insurers can understand – highly volatile fortuitous events backed by data, such as the frequency of a hurricane at a given location. By contrast, uncertain events where no data exists (for example, the post-event litigation environment) may be more sustainably addressed with other capital solutions. We see this intersection of volatility and uncertainty as a central dynamic impacting risk transfer markets today, where parametric solutions provide the “missing link” to help grow risk transfer and reduce the protection gap.
At Aon, our teams’ progressive thinking and creativity is at the heart of our collaboration with clients to support their decision-making and help them effectively navigate the challenging risk landscape. Aon’s global alternative risk team and parametric network is available to discuss specific client needs and our approach to developing customized solutions. While parametric coverages may seem complex as a new solution, the process and outcome for clients is quite simple. Please reach out to your Aon Team to learn more.
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