How Marsh and McLennan, Allianz and other insurers are responding to climate change risks
New payout triggers, alongside new policy types and coverage related to the complex transition many industries face.
Climate change is upon us. While policymakers quibble about what that means for their communities, insurers understand that money is on the line and are acting accordingly to create products to assist businesses in better managing the risks associated with climate change.
Those risks are numerous: temperature rise can hurt agriculture, while storm surges and wildfires can destroy property. But insurance is quite literally the business of risk management, and the many insurers GreenBiz spoke to for this article assured us that they are up to the challenge.
We know the job of predicting losses gets a little more complicated in a warming world. "When you have two 500-year floods within two years of each other, it’s pretty clear it’s not a 500-year flood," Gov. Roy Cooper of North Carolina stated at a September news conference in response to Hurricane Florence, which dumped almost 36 inches of rain across parts of the state.
So how is the insurance industry preparing? In short, by developing new ways of triggering a payout, creating new products to deal with new physical risks and introducing new ways of investing policyholder premiums to deal with so-called "liability risk." We’ll explore all three.
New ways of triggering a payout
In a world where historical data is less reliable than it once was, many insurers are turning to "parametric" insurance to offer clients protection. While more-common indemnity insurance relies on the value of the property combined with historical risk of a qualifying event to determine policy value, parametric insurance turns that model on its head by looking only at the likelihood of an adverse event. The payout is triggered if the adverse event — think certain wind speeds, high or low temperatures or predefined rainfall levels — hits.
Parametric insurance policies are emerging in many sectors. They apply in any case where there’s a reliable correlation between a weather event and a loss of revenue.
A few examples include: agriculture where farmers face a reliable loss of revenue in droughts; utilities who face likely property damage if wind speeds reach a certain rate; and hoteliers who face a loss of revenue if a big storm passes through. Even transportation providers face risks, too, if they rely on a waterway that may drop like the Rhine did last fall.
Tom Markovic, an expert on weather and insurance for Marsh and McLennan, explains: "It’s hard to think of an industry that shouldn’t be paying attention to this."
Munich-based Allianz SE, one of the world’s largest insurance companies by revenue, actively offers custom policies to help customers manage weather extremes including sea level rise, rainfall (either too much or not enough), temperature rise and wind surges.
He sees increasing applicability of parametric insurance in a warming world as these types of policies gain traction in the market. "In terms of loss solutions," Berlage said, "parametric has the advantage," due to transparency and the speed of payouts. He was also quick to state that customers don’t need to choose between indemnity and parametric custom solutions, as the two easily can be combined for full coverage.
While off-the-shelf solutions are still rare, Swiss Re has developed a product, Flow, for European businesses affected by those low water levels in the Rhine and other rivers. It is designed for companies that rely on these waterways for transporting goods and therefore face financial hardships when water levels sink. The parametric insurance provides a quick payment when water levels drop below an agreed-upon level.
Custom solutions, such as The Nature Conservancy’s coral reef recovery solution for Quintana Roo, a Mexican state on the Yucatan peninsula, continue to dominate.
The conservancy worked with local partners, including the State Government of Quintana Roo, to develop a Coastal Zone Management Trust that will be funded by an existing tax paid by hotels for use of the beach. Funds from the trust will be used for reef and beach maintenance and will soon be used to purchase parametric insurance that will pay out after hurricanes or tropical storm events based on a wind speed trigger.
Quintana Roo has a $10 billion tourism industry, and the reef is a key attraction for tourists as well as a protection — research shows that coral reefs can reduce wave energy upwards of 90 percent against flooding during storm surges. "The concept of combining a trust fund with insurance is an interesting new approach to help support and protect the reef," said Mark Way, global coastal risk and resilience director at The Nature Conservancy.
The positive news is that while the risk of catastrophe is on the rise, many insurers really are eager to pick up the risk. Numerous insurance industry insiders assured GreenBiz that any business facing any type of property damage from a weather-related outcome should contact their broker to discuss options. A lot of coverage options are available.
Managing the risks of renewables
One rapidly evolving coverage area, for example, centers on protecting against the risks associated with renewable energy projects. Insurance companies have historically had an important role in managing weather-driven risk on demand side for energy companies. For example, a natural gas provider might hedge the risk of a cold winter or hot summer because these would change demand which might change prices for the raw product they burn to create energy.
"Now that renewables have entered the scene in a big way, the insurance scene has changed dramatically," said Lee Taylor, CEO of REsurety, a renewables risk analytics company. "The fuel is free. There’s no big risk the price will go up 3x next year. But I can turn my natural gas on any time I want to. Wind blows when it blows."
The new risk is that a renewable installation won’t deliver the promised electricity volume and project owners — and corporate offtakers — may need to buy energy on the open market to compensate, which can be expensive.
Renewable energy project developers such as Enel Green Power, which recently broke ground on the 450-megawatt High Lonesome wind farm, partnered with REsurety and Nephila Advisors to analyze risks associated with the installation, such as how much volatility in wind production the project is likely to face. Allianz then creates proxy revenue swaps, which take into account both volume and price risks.
Transition and liability risk
One of the most unexpected (for this writer at least) areas of business insurance innovation is in "liability risk" — that’s the risk that the bets an insurance company has made with their financial investments will go belly-up because of an unforeseen sea change, such as a large-scale fossil fuel divestment campaign tanking the stock market. Because insurers hold quite large investment portfolios, huge swings in the stock market can have a big impact on the insurer’s ability to pay claims.
Some insurance commissioners in the United States take the financial risk of climate change so seriously that they’ve directed insurers in their states to disclose investments in fossil fuels. California’s insurance commissioner, for example, even has directed insurers to voluntarily divest from coal.
Some insurers are taking matters into their own hands and broadening their investment portfolios to address the risk of climate change there.
For example, CSAA Insurance Group, a AAA Insurer, has invested $1 million in forest resilience bonds. Linc Walworth, vice president of investments, was quick to clarify that this is a small amount in the scope of its whole investment portfolio of about $6.3 billion, but he considers the investment a pilot project worth replicating if returns are delivered as expected.
The forest resilience bonds, developed by Blue Forest Conservation, accelerate forest restoration through best practices identified by land managers and the forest services. Investors such as CSAA put up the capital and get a regular pre-defined return and the funds are used to improve forest health.
Forest restoration was of particular appeal for CSAA because of the company’s roots in Northern California, where wildfires have had a particularly devastating impact in recent years. Walworth explains: "Many of the homes that burned in 2017 and 2018 were AAA policyholders. We view doing something to reduce the risk of forest fires as something that’s good for our policyholders, something good for the communities they live in. Also good for us because if there are fewer fires, there are fewer claims to pay. We’re part of AAA, and it’s good for AAA members."
At the end of the day, while climate change has created many new risks for businesses, the insurance industry is actively offering solutions to help customers manage these risks. It’s one bright spot in the deep existential challenge of managing climate change risk, and there’s much more innovation to come.