Addressing Severe Weather Risk with Parametric Insurance Solutions

Climate change is increasing the frequency and severity of natural catastrophes across the world. Global economic losses from climate events in the first quarter of 2022 stood at $32 billion, with only $14 billion of that amount insured — marking the sixth consecutive year of more than $10 billion in insured losses[1].

The increase in natural catastrophe activity has made it essential for risk managers and business leaders to make better decisions to navigate these events.

Traditional insurance markets offer solutions, but they are largely focused on physical damage impacts, while the economic exposure faced by clients is much broader. That includes loss of employee income and the impact that has on the local economy, and more. Furthermore, these solutions are not designed to provide strategic access to liquidity, which is especially needed at a time of crisis.

Cat-Prone Businesses are Taking an ‘If-Then’ Approach with Parametric Solutions

Risk managers are rethinking their risk resilience by turning to parametric insurance, an “if-then” model designed to complement and supplement a traditional indemnity programme and better match capital to the broad nature of risk from natural disasters. Parametric insurance is an innovative, transformative and straight-forward solution, well suited for “grey swan” catastrophic events such as earthquakes, named windstorms, hailstorms, tornadoes and wildfires, among other perils.

Parametric insurance can dovetail traditional insurance solutions and lower the total cost of risk by allowing an organisation to proactively increase its programme retention and fund a portion of a parametric solution with the associated premium savings. By integrating the parametric solution, businesses free up capital by carrying less non-traditional risk.

Parametric insurance’s core mechanics can be defined by three key attributes:

The “if:” Parametric is differentiated by its coverage trigger and pre-agreed payouts. Underwriting is simplified as coverage is triggered by the occurrence of an independent event as determined by neutral third-party data providers.

The “then:” With the independent data trigger and pre-agreed amounts, recoveries occur quickly — often as soon as 10 days after an event. This is critical for businesses that need quick access to capital following an event.

Solving the protection gap: Coverage is broad. Any economic exposure arising out of an event can be insured. As a result, uninsurable exposures become insurable, and the parametric trigger provides the “missing link” to unlock contingent capital.

Parametric solutions can also be well-suited for other exogenous events. Capacity providers can underwrite parametric policies that address exposures related to a drop in tourism volume, pandemics, cloud service outages, and other situations where there is an impact from an event that can be described by independent data.

Aon and AboitzPower develop bespoke windstorm model

A Unique Set of Challenges

AboitizPower is the Philippines’ leading provider of renewable energy with approximately a million customers, and a vast network of physical infrastructure and distribution networks across the country[2].

The Philippines is hit by an average of 20 storms and typhoons every year, which typically destroy homes and infrastructure, causing millions of dollars in damage, including to the energy network.

The local insurance market provides very limited coverage via traditional property damage products for the energy transition and distribution industry, with limited capacity and many exclusions.

To address this, AboitizPower requested that Aon deliver a program to transfer key property damage and business interruption exposures.

Aon needed to develop a solution that would address the limitations of a traditional risk product not suitable for the complex needs of the AboitizPower network, effectively price its risk exposure, and simplify what had historically been a difficult and complex damage and insurance claims assessment process.

Simplifying and Streamlining Complex Risk Pricing, Coverage and Claims

AboitizPower and Aon have a long-standing relationship that works as a partnership more than traditional client/broker relationship.

“We’ve worked together for years to create better solutions and more effective and efficient ways for risk transfer.”

Liza Luv Montelibano, SVP – CFO, AboitizPower Corporation

Aon and AboitizPower undertook a high-level risk review over a period of two years studying the modelling of past catastrophic weather events, with a particular focus on windstorm/tsunami risk impact.

Aon Reinsurance then developed a bespoke ‘pole and wire’ windstorm model categorised across different regions in the power network. This model quantified the infrastructure and property loss at different pre-agreed levels of maximum sustained wind values on a 1 to 5 category scale, based off historical pricing, to develop a realistic and fair price for potential damages to the network.

The captive obtained terms for a parametric derivative covering windstorm risk, with claim payments to match the natural catastrophe models, based on location of the network and adjusted by storm strength.

This parametric derivative was executed, and a named peril insurance program was issued through a local insurer with matching parameters.

Keeping the Lights on and Power Running

To put it simply, with the parametric solution in place AboitizPower is now able to focus on its primary mission – to keep the lights on.

With 48 power generation facilities and more than 4500 square kilometres of distribution utilities across the Philippines, after the devastation of a tropical cyclone or other severe weather event with the with potential to affect up to a million customers, AboitizPower did not need be concerned with ‘nickel and diming’ every affected power pole or downed wire across the country. This insurance solution will allow AboitizPower to focus on restoring power to affected customers and repairing parts of the extensive network.

“It is simply not practical and actually almost impossible, particularly following a catastrophic weather event, for us to visit every pole and wire across the network to assess for damage and estimate repair costs. The parametric solution has saved us a massive and largely impractical effort and allowed us to focus on our customers. Restoring and repairing the network when disaster happens is our priority.”

Liza Luv Montelibano, SVP – CFO, AboitizPower Corporation

The solution has allowed AboitizPower to make quicker and more straightforward claims. For example, in December 2021 the program was triggered following Typhoon Rai with a payment made within 30 days (and within 10 days of the program being finalised).

To AboitizPower, the most important and significant aspect of the solution has been the elimination of the difficult, time-consuming and complicated damage assessment work that would have been required to make a claim on a traditional insurance program.

More broadly, the ease of the solution has substantially exceeded their expectations.

“The term parametric solution is actually quite misleadingly complicated for what is in the end a very simple outcome for us.”

Mark Louie Gomez, Vice President – Risk and Organisational Performance Management, AboitizPower Corporation

Insights and Key Learnings

For AboitizPower, understanding the variability of tsunamis, including the severity category and the potential impact on the network is the most significant learning on implementing the program, and will help AboitizPower and Aon refine the windstorm parametric model. It will also assist in reassessing categories and pricing for renewals in the future.

Most importantly, stepping outside traditional insurance products and embracing out of the box solutions has allowed AboitizPower to keep the lights on and the power running for their customers.

References 

[1] Q1 Global Catastrophe Recap | Aon, April 2022

[2] https://aboitizpower.com/about-us/our-businesses/aboitizpower-at-a-glance