Parametric Insurance: An Alternative for Mitigating Weather Risks and Supply Chain Disruption

For businesses vulnerable to large losses from weather events or natural catastrophes, obtaining comprehensive insurance cover is an increasing challenge. The number and size of claims resulting from these events have made insurance providers wary and in some cases unwilling to offer any cover at all. Now a risk solution known as parametric insurance, largely used for crop protection in the past, offers an alternative for businesses with hard-to-place property risks.

Firstly, it's important to understand that parametric insurance does not cover every type of risk or insurable event but it may offer a transparent, efficient and tailored solution for risk management and financial protection.

Understanding parametric insurance

Parametric insurance uses an alternative method for terms of coverage, compared to conventional insurance models. Instead of compensating for actual losses or damages, parametric insurance uses defined parameters and objective data to trigger predetermined payouts when specific conditions are recorded.

This data-based approach ensures a tailored and efficient response to risks, making it an ideal solution for businesses seeking comprehensive protection against specified weather events.

In most cases parametric cover would be a complementary policy to fill gaps in traditional insurance by enabling top-ups on coverage limits for businesses seeking to avoid having to self-insure part or all of their exposure to extreme weather or natural disasters. This also enables full transparency and the potential for more affordable premiums.

Parametric solutions provide predetermined payouts based on pre-agreed triggers, so there is no need for an insured client to prove a loss; however, there is potential for the actual financial losses suffered by the insured to exceed the pre-agreed payout. The inverse is also true — the payment is triggered by the data, not by an actual loss.

How parametric insurance cover works

In the past decade, record damages have been registered in Australia, particularly for exposed industry sectors such as agriculture and viticulture, solar plants, industrial, commercial, hospitality and outdoor vehicle storage businesses located in regions particularly vulnerable to adverse weather conditions. Fortunately, advancements in data collection, accuracy, monitoring and modelling have enable the development of parametric insurance.

This type of insurance relies on empirical information and allows clients to customise coverage based on their specific location and desired indemnity amount. Objective data from sources like the Bureau of Meteorology (BOM), satellite/radar and leased sensors is used to verify measurable factors, such as hailstone size and impact density, for nominated structures.

Once the predefined parameters are met, the agreed-upon indemnity is automatically paid without the need for further claim adjustment or specific proof of damage.

For example, the owner of a business storage warehouse in a cyclone risk area where conventional insurers will no longer provide cyclone cover gets a parametric insurance cover for $2 million, triggered when the BOM records local conditions exceed Category 5. If the policy is triggered, the business receives payment for the $2 million indemnity with no proof of damages required. But the business would receive no payment after a Category 4 cyclone in which the warehouse sustains minor to moderate damage.

Parametric cover also includes financial impacts, such as business interruption and/or additional costs of working, caused by the insured peril, without the need for proof of property damage.

In addition to helping businesses meet a wide range of longer term costs, funds can also be used for risk mitigation and improving resilience to future events.

Advantages of parametric insurance

• Tailored coverage for foreseeable events and payout amounts decided by the business according to their exposure to particular perils and their likely impacts.
• Efficiencies of claims. Policies usually stipulate a prompt claim payment — without any loss adjustment process required. This streamlined approach ensures faster access to funds, enabling faster recovery to resume operations.
• No onerous requirements such as site assets inventory or engineering certification required prior to policy inception.
• Transparency of policy terms which are not restricted by sub-limits or exclusions, removing the possibility of coverage disputes on claims.

Some factors to consider when deciding if parametric cover is right for your business

• It is dependent on the data source already pre-existing.
• Historical data may be insufficient or unsuitable for providing the basis for a trigger metric.
• The chosen trigger point may not reflect the extent of loss involved.
• Since parametric cover is based on the trigger metric, it may not cover all of damage sustained.
• Your actual losses may not match the amount of parametric cover provided, or you could sustain financial losses without meeting the trigger metric required.

How we can help you with parametric insurance solutions

Working with an insurance broker to understand your business exposures can help you to identify the right solutions to mitigate your risks.

Talk to us about the viability of a parametric solution for your risks.

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