Can’t know the pandemic fund players without a scorecard

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It’s getting more and more difficult to keep track of economic responses to COVID-19 without a scorecard; new or updated grant, loans, fund discussions and press releases fill the news each day.  And why shouldn’t that be the way?  It’s a multi-trillion (fill in currency of choice here) issue for economies with current and future ramifications.  This column has discussed COVID-19’s effects in depth since February; let’s consider a response score card as this week’s effort. And for those who are patient to the end- some bonus business interruption content!

Patrick Kelahan is a CX, engineering & insurance consultant, working with Insurers, Attorneys & Owners in his day job. He also serves the insurance and Fintech world as the ‘Insurance Elephant’.

Before we fill in the current scorecard let’s agree that governments’ central monetary authorities have been throwing a lot of liquidity into the markets, and treasuries have been distributing direct funds and issuing loans to buoy up businesses during lock down periods.  That’s all well and good but it’s reactionary, inefficient, and ignores in most part the resources of private capital markets.  Ironically in some fashion government efforts have been ‘sending riches to the rich’ through distributions that end up in those same cap markets.

Setting government actions aside we again find not much from the indemnity world of insurance, although John Neal of Lloyd’s and Evan Greenberg of Chubb might disagree since their published assessments estimate that COVID-19 insurance exposure is $100 billion.  Place that estimate in perspective of the pre-COVID insurance market that approximates $5 trillion annual revenues and its magnitude becomes less impressive.

Let’s not belabor what is known and focus on how the industry and governments are working to anticipate responses to future like events. Any chosen option needs to be affordable for businesses, provide prompt and/or efficient payment, not be politically expendable over time, have stable, uniform funding, and not be complex to administer. That’s all.

There are several prominent fund/backing proposals and while the exemplars are not exactly all apples or all oranges, we can contrast them by:

    • Sponsor
    • Constituency
    • Fund size
    • Distribution model
    • Backing /funding
    • Admin

First chart

*Proposed

**Proposed by coalition of the National Association Mutual Insurance Companies, Insurance Information Institute, American Property Casualty Insurance Association

That scorecard shows the who’s, how’s and how much, but what of potential fund efficacy?

second chart

Review of these general data prompts some caveat observations:

  • Often the correct answer is not the right answer, as is suggested for option C. Having pre-purchased recovery insurance at a level supported per each customer’s business activity is smart, but will the program be caught by moral hazard issues, and what of those businesses that do not participate?  Another (yet smaller) PPP experience?
  • Option G is untried collaboration in private insurance and capital markets, but will government backing be available for early years of the program?
  • A, C, and D require significant government funding or admin. Considering that administrations change and budget issues crop up, will the finds have political interest that outlasts short memories?
  • F existed before COVID-19 was known, with no takers. What will change that reality now?
  • Will B have the buy in of the balance of the EU, or will the members need to revert to individual plans?
  • How scalable are E and F, or will other carriers need to come on board?
  • Are any of the plans looking to leverage private capital markets?

There are scores but we don’t know the score- yet.  What is certain after the discussion is as was at the beginning- it’s a multi trillion (fill in the currency here) concern that needs one or more solutions.  Status quo keeps all with zeroes on the board.

(Full disclosure- the author is a co-founder of the Ten C’s Project, but is agnostic on which type of fund is supported as long as insured companies benefit.)

Now for your bonus-

I came across a fascinating infographic representing COVID-19 insurance around the globe  published by P2P Protect Europe :

infography-covid-insurance_orig

I reached out to the firm for any further comments they may have to accompany the infographic and my expectations were exceeded by the comments made by P2P President/Managing Partner, Tang Loaec.

Mr. Loaec provided a different view of business interruption (I’ll use the full quotation):

“As regard property insurance and the embedded business interruption insurance, there is a catch 22 between the desire to exclude the massive concentrated financial impact – which can threaten insurance stability – and on the high frustration of the insured which remains exposed while they thought their business interruption insurance was ensuring their business continuity.

What  P2P Protect Europe recommends to its insurance clients is to approach it from an assistance logic. For example, if you want to include a mechanism protecting a university against the impossibility to use its premises when pandemics strikes, you may extend the coverage not by opening you to monetary claims (the sky is the limit sometime), but by integrating a pedagogical continuity service with a dedicated online classroom provider such as for example LiveClass.fr to deliver protection against the business interruption risk without opening up to massive liabilities. Similar approaches can be envisaged for many other types of business activities. Through innovative assistance services, we can improve the resilience of our society to pandemics, reduce the negative impact on the insured business, while not bankrupting insurance either.”

Well that gives the issue a whole new viewpoint.

You’re welcome.

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Best to be a skilled juggler to be an insurer in today’s environment

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It’s no longer just a water balloon; insurance has become a water balloon morphed with a Rubik’s Cube.  Squeeze here, bulges there, twist row here, colors change there.  Insurance is not a business for the faint of heart but needs to be an industry WITH heart.  Focus has been on COVID-19 issues but all those other perils and occurrences must still be attended and planned for, and the industry’s reputation- always a fragile characteristic- needs consistent effort to prop up.

Patrick Kelahan is a CX, engineering & insurance consultant, working with Insurers, Attorneys & Owners in his day job. He also serves the insurance and Fintech world as the ‘Insurance Elephant’.

Contrarian’s reality of business interruption cover

The insurance world sat on its hands during the early emergence of the coronavirus outbreak, aware that supply chain issues were occurring in China, businesses were being shut down, and economic ripple effects were being felt into western economies, comfortable in the exclusion of cover for systemic risks.  However, as the insurance effects of COVID-19 became more acute when business interruption cover was being considered and denied for cover, insureds, legislators and the plaintiffs’ bar held sway over the narrative.  Seems the concerns have gone a little underground but that just may be a fools’ game to believe.  Insurance companies defend the multi-hundred billion dollar issue on a 9-5 basis; plaintiffs and eager attorney firms team up 24/7.  Sure, insurance industry orgs like NAMIC and APCIA have put out position papers describing the many problems ex post facto changes to insurance contracts re: business interruption insurance changes would cause the industry, and of late the US Treasury Department has advised it is in opposition to having insurance companies take undue responsibility for the BI claims, but of course insurance in the U.S. is not regulated by federal law, and zeal within local jurisdictions is swayed by sentiment.

In addition, policies and coverage differ across the spectrum of carriers’ contracts and certainly across what bespoke risk underwriting provides.  I wonder if insurance carriers are taking the issue seriously enough to have internal ‘war games’ where policies need to be defended provision by provision? Determining cover with a lean to the customer now is much less costly in terms of direct financial cost and indirect reputational cost litigation would present, even as the issue in the U.S. potentially progresses toward a constitutional battle.

Even with this news today out of the state of Louisiana via Business Insurance, Louisiana-lawmakers-scrap-bill-to-make-interruption-coverage-retroactive, insurers need to find other ways to provide risk management service for their customers.  Just because some peril or circumstance isn’t covered- now- doesn’t mean other avenues to assistance can’t be considered.

Insurers in the UK are dealing with a similar issue and business sentiment, just to a lesser economic degree per the Evening Standard.  Whether the concern is a “shortcut to insolvency” as the Association of British Insurers stated in response to U.K.-based risk management association Airmic Ltd’s remarks urging carriers to be responsive to insureds’ needs:

With many corporates facing an existential threat from global governments’ lockdown measures and a deep recession likely to follow, we expect brokers and insurers to demonstrate fairness and flexibility with regards to claims and renewals. The harsh market is already straining relations with many corporate clients, and insurers’ rigid interpretation of wording regarding the pandemic could accelerate this deterioration.

Airmic believes insurers have a choice. They can either interpret ambiguous contract wordings with their balance sheet in mind, or they can act as partners to long-standing customers who seek business protection. All parties will benefit from a partnership approach to the current crisis.

 

it’s clear that the concern remains on the front burner per reporting in Business Insurance.

24/7 efforts and networking of attorneys, insureds, and plaintiff advocates vs. 9-5 defense. Perhaps still a false security (digital communication works, collaboration is effective, and 33 1/3 % of tens of billions of USD is a lot of motivation.)

Insurance and reinsurance company capital buffers have become smaller as a result of stock markets being down 20% or more- does that matter?

Insurance companies are often considered more holders of float than risk managers; a less than stellar underwriting performance in a given year can be mitigated for effect by effective investment of premium float- use of premium dollars paid in that have yet to be accounted for as earned based on policy duration.  Berkshire Hathaway’s founder and CEO, Warren Buffet has been the industry’s float cheerleader for many years, and that attitude has served him and his company well.  However, even the estimable Mr. Buffet’s firm has been rocked by the loss of value due to the effects of COVID-19 and volatility within stock exchanges (see below.)

Sample of insurance company performances- US P&C carriers

Ins Perf 2020

One quarter does not a trend make, but it’s expected investment results for the second quarter of 2020 will be as volatile, and long-term expectations for P&L performance is uncertain.  Underwriting performance for personal lines may reflect better than average based on auto usage and stay at home efforts lessening some homeowners’ policy claim severity.  U.S. Fed actions will settle markets some, but carriers have less appetite for higher return but higher risk vehicles for that portion of float that is not bound to Stat accounting requirements. Perhaps carriers need to begin to plan for intangible asset variances from a risk management standpoint, something that seemed a very company-localized concern just a few months ago.  Is there now a market for parametric products that deal with trigger events relative to macro consideration of intangible assets?  Another look at the work of John Donald  and Dr. Marcus Schmalbach (See “Heartbeat in the Fog” ) gives some thought on the subject.

There are aspects of insurance reserves that do not get as much scrutiny, that being reinsurance and insurance linked securities (ILS).  Rei authority Artemis noted recently that as global stock markets ran 20% or more lower along with impairment of other assets classes the “capital buffers of reinsurance companies have become smaller as a result.”  Lesser values for primary insurers’ securities portfolios, and potentially less capacity in and higher cost for reinsurance- certainly not an ideal short or mid-term prospects.  As for ILS- even though that aspect of risk financing is a relatively small part of the whole that sector remains tight from significant events from 2017-18 (thanks for the perspective, Tom Johansmayer of Verisk PCS.)

For now P&C carriers have wiggle room on the claim side, but new territory to navigate in terms of investment.  If for some significant reason carriers feel they need to establish large reserves to defend and potentially pay BI claims that will affect loss and expense ratios.  Managing core businesses- sales, claims, and service needs to continue with a weather eye on securities’ markets.

 

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Whose perspective is it? Insurance remains not what it seems at first view

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It’s beginning to wear on the insurance industry.  COVID-19?  Kind of.  Moreover it’s the unexpected ripple effects of the outbreak on how lives are led, how insurance intersects life, how perspectives color how insurance news is celebrated or questioned.  We’ve discussed much of COVID-19’s current effects on business and how the future of insurance will need to adapt.  Let’s take this week to see insurance happenings through different lenses, or from a reverse of the Insurance Elephant- from differing perspectives as per sight-impaired gents in the image.

image- MA Devine

Patrick Kelahan is a CX, engineering & insurance consultant, working with Insurers, Attorneys & Owners in his day job. He also serves the insurance and Fintech world as the ‘Insurance Elephant’.

  • COVID-19 cannot be overstated as being a health danger/terror. People have minimal control over exposures, and no control over the extent of symptoms if infected.  Similar thought process applies in business livelihoods of employees and SMEs – there’s little control for an individual over business operations, closures, availability of customers, and recovery funds.  Social distance helps in one aspect, but could be business fatal for the other.

 

  • Reductions in driving due to implementation of working from home protocols and staying at home is resulting in renewal of discussions for mileage-based auto cover. While that’s being considered carriers in the US announce premium rebates (Allstate, Liberty Mutual/Safeco, American Family, and now Progressive) and/or premium credits for renewals (GEICO).  Overall the rebates/credits are estimated to total $3.5 billion;  contrast that with the findings of  The Consumer Federation of America estimating US carriers are benefiting in additional profits in the amount of $2 Bn per month.  Carriers need to ensure this does not become a PR issue like business interruption cover has.  The upside?  Fewer auto accidents.

 

  • Government financial recovery programs have been announced in most countries, building optimism for the citizenry and businesses. Problem with government programs for disasters like pandemics is it’s easier to ramp up politicians/ rhetoric than it is to implement and produce the programs’ results.  Example- US Small Business Administration has an effective economic injury loan program, in essence a working capital backstop.  Plenty of funding has been planned but few loans processed to date.  Scaling up and staffing has been a significant challenge.

The time is nigh for the SBA to hand off disaster financial response to fintechs and InsurTechs– the vetting process for disaster loans is just right to digitize, from app to approval to funds distribution.  Just need to change some of the Code of Federal Regulation.

  • AXA’s CEO, Thomas Buberl, has suggested formation of a government/insurer risk pooling scheme to hedge future pandemic responses by insurers. Other similar schemes exist for property damage; need to ensure more than just cost hedging is planned (see Ten C’s Project  and broadening the spectrum of change).

 

  • Lloyd’s offered a parametric hotel product last fall that would provide payments to hoteliers when occupancy rates fell beyond an agreed index. Few chose to participate; all now have regrets post-COVID.  Whether there was sufficient capacity to take care of all potential interested parties will not be known.  My drumbeat – parametric will become the cover of the coming decade.

 

  • Worker injuries will be reduced due to business closures and work from home status (hmmm- what if an employee gets injured during mandated work from home sessions?), but potential high severity COVID-19 claims will be prompted for WC due to exposures during work. It’s not just state regulators in the U.S. who see the virus as a potential occupational disease, the Social Security Organization in Malaysia has deemed the disease as such, India has guidance to employers that WC applies if an employee contracts the disease (and has advised salary compensation applies for quarantine ordered staff).  The Province of Ontario, Canada has also followed suit for WC guidance for essential workers .

 

  • A promising entry into risk financing is the principle of Insurance Linked Securities (ILS), or capital vehicles used to hedge risk, provide coupon return, and widen the source of risk funding into the huge capital pool. Who wouldn’t want to obtain a return on bond investment that is greater than Treasuries,  and certainly better than potential negative rates?  Well seems the reinsurance world has some early grumblings that ILS are muddying the water and softening the rei market.  The remarks in the market that ILS have a destabilizing effect can be read through as injecting some competition and perhaps scraping some cream off the glass of whole rei milk. Thanks to AM Best and Steve Evans of Artemis.Bm for that commentary.

 

As is typical- insurance doings are strongly influenced by perspective, and little is as it first seems. Stay safe and well.

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Pulling back the curtain to shine light on ‘scary’ insurance phrases

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Reinsurance/ILS, Blockchain, and insurance financials.  Not quite lions, tigers, and bears, but for many who follow insurance the three concepts are as daunting and pose discomfort in understanding. Why then the mention?  Because in an earlier social media post I noted that the three words do not generate a lot of media content traffic, and if there is a related posting, not much response.  A wise connection dropped the key hint to that puzzle- the words need to be discussed in context that makes sense to the reader.  A cool idea, Modern Accelerator .

Patrick Kelahan is a CX, engineering & insurance consultant, working with Insurers, Attorneys & Owners in his day job. He also serves the insurance and Fintech world as the ‘Insurance Elephant’.  Image

Let’s dive into the three concepts with a full recognition that this blog will serve merely as an overview and whetter of appetites causing the readers to want to consume more. Fair warning- even keeping the topics brief- TL:DR may apply.  That’s OK.

Insurance Financials

There is plenty of government oversight for accounting that dovetails with plenty of regulation, we can’t touch on all the respective countries’ agencies and regulators but in essence they all serve the key roles of making uniform 1) how insurers account financially for their business, and 2) how insurers account for how solid they are in being able to serve their policyholders relative to the agreed scope and cost of risk.

It’s an alphabet soup of government orgs or standards: GAAP, FASB, SAP, IRDAI, NYDFS, SEC, IFRS, FCA, FSDC, SUSEP, NAICOM, ICLG, ASIC, APRA, etc. (almost) ad infinitum.

Fundamentally there are three accounting principles (of the many) with which insurers must comply, just in a slightly different manner from most business organizations :

  • Revenue Recognition Principle
  • Matching Principle
  • Historical Cost Principle

Without complicating things too much, insurance companies have financial stability burden to prove continuously- a carrier’s ability to fund the risk costs that it has agreed to.  All those policyholders have an expectation of indemnity or payment if a loss or occurrence to which their policy agrees to cover /pay comes to fruition.

The three principles noted above are part of the key differences between insurance companies and others, primarily because what insureds receive for premiums is a risk agreement that elapses over time.  Receive $1000 for an insurance contract today for twelve months’ cover.  Money in the bank for a promise over time.  So in respect to compliance with the Matching Principle, premiums are deemed  ‘written’ only until an increment of the policy’s time is expired, wherein the portion of the premium that matches the period is booked as ‘earned’.  One month’s policy duration allows 8 ½% of the written premium to become earned, six months’ earns 50%, and so on.

So you can see how a carrier with a ton of cash on hand might not be as liquid as one thinks if there are an according ton of policies on the books whose expiration extends over twelve months or more.  Written and earned- key concepts.

Here’s an example of a P&L statement showing the written and earned premiums, from German insurer, DFV_AG or Deutsche Familienversichurung:

DFV Inc

The sharp eye will note in addition to written and earned premiums there are lines showing the ‘Share of reinsurers’; that will be touched on in the Reinsurance portion of our discussion.

Traditionally the written and earned difference followed a solid calendar pattern due to typical annual expiration of polices.  But what of on demand or ‘gig’ policies?  The covered period may be a few hours or days, so there is little lag between written and earned status.  Knowing a carrier’s business model has become more important than ever since a heavily funded entrant’s cash may be more restricted if it’s a traditional style insurer in comparison with an on-demand player.

Carrying the discussion to the Matching Principle (matching costs to the period in which the costs were incurred) suggests a few important financial factors:

  • Costs of policy acquisition is matched to immediate written policy premiums, e.g., agency/brokerage commissions, marketing, admin office costs, digital format costs, etc., but
  • Costs of policy administration, e.g., adjusting expense, loss costs paid, etc., may be charged to earned premiums in a different incurred cost period.

As for the Historical Cost Principle, regulators want to know concretely what amount a carrier assigns to portfolio assets.  Insurers need to be liquid in their asset portfolio so assets can easily be converted to cash if loss payment volume so demands.  For example, bonds might fluctuate in value over time due to variances in interest rates, but carriers need to maintain a historic cost to keep regulators content for solvency calculations.

Quite a rabbit hole are financials, so the conversation will conclude with THE common comparative measures for P&C carriers-  loss ratio, expense ratio, and combined ratio.  These measures will give the reader a clear idea if earned premiums (revenue) exceed or are exceeded by expenses and loss cost.

So,

loss ratio = claim payments + adjustment expense/earned premiums, expressed as a %

expense ratio = expenses other than adjustment expenses/earned premium. Expressed as a %

combined ratio is a sum of the LR and CR.

Ideally CR is < 100%, meaning earned premiums exceed costs and underwriting activity is profitable.

What must be remembered as carriers are compared- the maturity of a carrier in terms of time in business, how aggressive is growth relative to existing book, the nature of the carrier’s business and how that affects reserves (immediate draw on profits.)  Entrants may have LR that are in the hundreds of %; consider trends or peer comparisons before your lose your mind.

Reinsurance

Reinsurance is insurance for insurance companies.  There, that was easy.

Rei was once an easier financial concept to grab- carriers would sign treaties with reinsurance companies to help protect the primary insurer from loss outcomes that exceeded typical loss expectations.  Primary carriers do not plan (or price) for an entire region to be affected at the same time, but sometimes things happen that require excess over planned loss payments, e.g., wind storms, wildfires, tornadoes, earthquakes, etc.  Primary carriers will purchase reinsurance that for a specific period, and in an amount that is triggered once a carrier’s loss payments for the treaty peril or perils is incurred.  Pretty direct and expected by regulators, and part of claim solvency calculations.

What has occurred over years is that reinsurers have evolved into other types of excess risk partners, covering more than just catastrophe losses, and becoming excess risk options.  If you again review DFV_AG’s income statement and consider the premium and loss cost portion of the carrier’s P&L shared with reinsurers, you’ll understand the firm has ceded premium and costs to backers to help smooth growth and provide backstop to the firm’s ability to pay claims and serve its customers.  This has become a common methodology for startups and existing carriers, allows more product variety for reinsurers and spread of risk.

Another evolution over the past years beyond reinsurance is the advent of Insurance Linked Securities (ILS), capital vehicles that are designed solely as alternative risk financing.  Insurance-linked securities (ILS) are derivative or securities instruments linked to insurance risks; ILS value is influenced by an insured loss event underlying the security.  What’s that?  ILS are capital vehicles that simply are designed to pay on an outcome of a risk, e.g., hurricane, earthquake, etc., sold to investors looking for diversified returns in the capital markets.  A hedge against a risk for insurers, an option for better than normal market returns for the holders.  Often referred to as Cat bonds, these bonds serve an important role in the risk markets, and are an opportunity for holders for income.  Often ILS are sliced and diced into tranches of varying risk bonds to smooth the outcome of a linked event.  Don’t be surprised if ILS become a more accepted means of financing more common, less severity risk within the industry, or in use in unique new risk applications, an example being pursued by Rahul Mathur and colleagues.

Blockchain

So much promise, so much confusion, overreach and failure to launch.  Or maybe Blockchain’s connection with the perceived wild west of value transfer, crypto currency, has colored the insurance world’s relative arm’s length view of the concept.

A quick search of definitions produces many references to bitcoin and other crypto currency (I’ll leave those to my knowledgeable Daily Fintech colleagues), but we simply want a definition that maybe doesn’t sound simple (Wikipedia):

“By design, a blockchain is resistant to modification of the data. It is “an open, distributed ledger that can record transactions between two parties efficiently and in a verifiable and permanent way”. For use as a distributed ledger, a blockchain is typically managed by a peer-to-peer network collectively adhering to a protocol for inter-node communication and validating new blocks. Once recorded, the data in any given block cannot be altered retroactively without alteration of all subsequent blocks, which requires consensus of the network majority. Although blockchain records are not unalterable, blockchains may be considered secure by design and exemplify a distributed computing system with high Byzantine fault tolerance. “

Open. Distributed. Peer-to-peer. Decentralized. Immutable. Cool for generating crypto, but not so much for the wild data sharing needs of insurance.

So why is Blockchain not taking hold for insurance?  The use case is tough for carriers- unstructured data (of which carriers have a ton) do not play well in a Blockchain (Blkcn) environment, many changing players in an insurance claim, and so on.  Blkcn holds data securely, but doesn’t guarantee cyber security outside the ledger. Blkcn can be more cumbersome for data retrieval across consortia-based ledgers.  Multiple writers to the ledger, multiple efficiency issues to overcome.

But what of uses for reading data once placed in the ledger? Can be very cool. Anthem is a US health insurance provider serving millions of subscribers nationally, the company recently initiated a Blkcn pilot wherein the company is making ledger access an option for the test participants, with patient records stored in the ledger, and individual subscribers given the option to give providers access to health records via use of a QR code that has an expiration date.  Subscribers have the power over their records and access is given for read only permission.  There are many potential benefits to health insurance Blkcn but the options must dovetail with data security.

Another positive scenario for Blkcn application- crop insurance in previously under-served markets.  OKO Insurance provides micro crop insurance policies in Africa, backing by reinsurance but administered in part by distributed ledger, each farmer’s information residing in the ledger, and access provided to underwriting and reinsurance.  And- if payment is made a partnership with digital payment systems to facilitate settlement.  An active Blockchain as a service company, BanQu, is expert at facilitating these frameworks and has a portfolio of projects around the globe where ‘first mile’ and ‘last mile’ data are administered within a ledger for the respective customer and its affiliates/suppliers.  Permissioned but not written by multiple players, QR codes to allow involved sources access to a supply chain.  And the sponsor of the ledger has a clear data record of each step in a supply or value chain.  Speaking with the firm’s business development executive, Brady Bizal, we discussed how a Blkcn ledger such as BanQu provides could serve as an ecosystem initiative for regions, including the details of insurance for a farmer, payment records, link to in country digital payment systems, risk mitigation firms, and as warranted, the transaction/finance data can be accessed by permissioned bankers at the customer’s choice- the magic of QR codes.  It’s an entrée to a trust system that may otherwise not exist.  Opportunity.  Maybe not the original thinking for Blkcn and insurance, but sit for a few minutes and you will think of many similar possibilities for blockchain use in health insurance alone.

Sorry, there is so much that could be written about the three concepts and I’m hopeful the article answered some questions about finances, blockchain and reinsurance/ILS.  It’s certain readers and experts will advise me of missing sections, and that will be the foundation for a next article on the subjects.

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Parametric Insurance- The Least Known Best Response to Unfortunate Happenings

What if a policyholder could be immediately paid when an event or circumstance occurred, with no claim to file, no investigation other than confirmation that the triggering circumstance did happen?  This type of payment does happen now- consider travel insurance hybrids that provide benefit for delayed flights, and pay immediately based on a delay parameter. Could the same be accomplished for natural disasters, failure of crops, or other situations that can be set as a parameter?  Yes, it can.  Welcome to the world of parametric insurance.

Insurance is a known product- in return for payment of a premium a policyholder can expect (within the terms of the insurance contract) indemnification for a covered loss.  The loss occurs, a claim is made, the claim investigation proceeds, an estimate of loss is made, and a claim settlement is paid.  Outside of health and life cover this is the typical framework of the contract that is insurance.  The value of the insured property is determined at policy inception, a premium is generated based on underwriting guidelines re: probable loss characteristics for covered perils, and the insurance contract is bound.

A nagging problem with that centuries old framework is the need to prove a value of property, to experience an occurrence or claim, prove the claim, and wait for indemnification- if the claimed damage is covered by a policy.  There are many perils that are not covered by most policies, e.g., flood, earthquake, long-term effects of weather (drought), wear and tear, and so on.  Additionally, in some circumstances the nature of the damage exceeds the ability of individual policyholders to adequately respond- of particular note flooding, cyclones, earthquakes and agriculture issues where damage is a regional problem that simply requires regional response.

Parametric insurance, or, “a type of insurance contract that insures a policyholder against the occurrence of a specific event by paying a set amount based on the magnitude of the event, as opposed to the magnitude of the losses in a traditional indemnity policy” (NAIC) is becoming the insurance option that allows a policyholder a payment for an occurrence or circumstance that can be defined and established at the inception of coverage.  An apt example of a parametric option is provided by Jumpstart, a firm that will make payment to U.S. policyholders when a seismic event occurs and reaches a ‘peak shaking intensity’.  The firm simply monitors US Geological Survey data, when a trigger event occurs the firm identifies policy holders within the affected area and sends them a payment.  No claim action needed by the customers- the agreed parameter occurrence happens, the policy pays.  Traditionally an earthquake would need to damage covered property, the respective property owner would need to have earthquake coverage (an optional cover in most jurisdictions), a claim be filed, investigated and settlement made.  Indemnification for damage.  Parametric products simply promise payment if an agreed parameter is met- in Jumpstart’s case a ground shake of a certain magnitude.

One must keep in mind that parametric insurance is not intended to be a full ‘indemnification style’ coverage- it’s meant as a first payment option for traditionally covered perils, and an alternative/immediate recovery source for perils that may otherwise not have practical insurability.  Prudent insureds may even layer parametric cover onto traditional policy coverage, almost to act as a hedge against a large deductible.

Applying the method to the market is not as simple as generating the policy- there must be an identified, measurable trigger for the respective policy, and the carrier needs to be able to conduct that ages-old act- apply probability of risk to the potential payout.  What makes that exercise more direct than with indemnification policies is that there is a specific trigger, and there is an agreed payment.  If X occurs, amount Y is paid.  Claim adjustment expense is administrative cost only, and customers may not even have to report or confirm the triggering event as the carrier may have methods in place to automatically confirm the triggering event.  Consider if the parametric agreement is captured as a smart contract in a distributed ledger format- perhaps an inroad into Blockchain as an equal to other methods in administering insurance?  (see Etherisc )

So what uses are there for parametric cover?  Not everyone is in a high frequency earthquake zone, and awareness of parametric cover is relatively low.  If we look to the current placements of the cover there can be an understanding of where the industry sees opportunities.    Travel insurance options have been noted, and exemplify how the cost of inconvenience can be reimbursed. There are insurance organizations that have established themselves as industry experts, e.g., Swiss Re, who have initiated parametric plans in collaboration with individuals and governments in many areas for:

  • Earthquake
  • Cyclone
  • Crops  (Better Life Farming) – also includes comprehensive agricultural advice
  • Wildfire

And the firm’s thought process does go beyond individual policyholders to regional parametric programs that partner with government agencies, for example, Sovereign Insurance (options for regions across the globe), or other organizations such as Hiscox Re ILS with ongoing involvement  in a variety of initiatives including the linked Philippines plan.

Broad spectrum parametric programs have been in place for some years to assist governments in more prompt recovery from disasters:

  • Caribbean Catastrophe Risk Insurance Facility (CCRIF)- provides post-disaster assistance to nineteen Caribbean and Central American countries, is funded by various governments and government organizations, and makes payments to participants’ governments for earthquake, hurricane and excess rainfall triggered events
  • African Risk Capacity (ARC)- planning and guidance program that also funds/administers a primarily agriculture parametric cover for participating countries

And in addition- there are initiatives being developed as this article is written where counties in China are being used as model plans for regional parametric cover, particularly earthquake-prone areas and regions subject to landslides (see Insurance Asia News ).

Are there also funding opportunities for parametric insurance, both from a provider and recipient standpoint?  One would think so as this cover fills a gap for recovery, and, in combination with existing schemes for catastrophe and disaster bonds capital can be encouraged to make a foray into parametric plans.  Insurance linked securities (ILS) that have taken some hits during the last few years with unexpectedly frequent and unexpectedly severe cost events might have more stability functioning within a more predictable loss environment of parametric programs.  Improvements in data collection, analysis, AI and immediacy of event data have all contributed to the increasing viability of the programs.

So the unexpected benefit and under-publicized parametric insurance industry may be the best hedge for many against uninsurable (in a traditional sense) perils, and for almost anyone that needs a source of immediate payout when a trigger event occurs.  Picture the coastal towns of the U.S. after a major hurricane as recipient of a parametric cover distribution, a ‘prime the pump’ amount to give some immediate recovery light for residents, or tsunami victims whose livelihoods have been washed away receiving funds to re-establish businesses, or wildfire victims who need immediate distributions until primary insurers can catch up.  Yes, insurance payments can be made without the burden of proving a claim- set the trigger point/parameter, and count on the underutilized benefits of parametric insurance.

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Patrick Kelahan is a CX, engineering & insurance professional, working with Insurers, Attorneys & Owners. He also serves the insurance and Fintech world as the ‘Insurance Elephant’.

I have no positions or commercial relationships with the companies or people mentioned. I am not receiving compensation for this post.

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