Financing Pandemic Risk
Could capital markets offer an alternative to transfer the risk of financial losses caused by pandemics? The fast spread of the Zika virus in the past few months has made this question a valuable one for companies around the world.
The answer might well be yes. There are already instances of insurance and reinsurance firms selling pandemic risks to capital markets. And investors appear to be keen on buying them.
“We like to buy this kind of risk. It can be a good diversifier to a global portfolio,” said Christophe Fritsch, co-head, securitized and structured assets, at AXA Investment Managers.
The challenge of a pandemic risk bond is to define triggers and conditions for the coverage.
Past market transactions involve insurance-linked securities that transfer pandemic risks, often along with other excess mortality events such as terrorism. They are used by insurers and reinsurers as an extra tool to manage their regulatory capital reserves.
But an initiative by the World Bank to issue pandemic bonds could lead the way for other kinds of issuers to employ similar capital markets instruments. The World Bank’s bond employs a parametric trigger that helps speed up payments when companies may need some urgent cash flow.
Bill Dubinsky, a managing director at Willis Capital Markets & Advisory, said a likely candidate could be an airport that sees dramatically reduced traffic if there is a pandemic in the country.
If the risk had been transferred to the capital markets, he said, the airport could have a considerable degree of cash flow through the duration of the outbreak.
The challenge is to define triggers and conditions for the coverage.
The trigger of the World Bank’s bond, which should be placed with investors in the Fall, is linked to the level of confirmed deaths caused during a pandemic event. It might not be the best option in the case of pandemics such as Zika, where the number of deaths is fairly low, and companies face other effects such as the interruption of business or loss of revenues indirectly associated to the disease.
But other indicators, such as number of people infected in a limited period of time, could be employed, as is already the case with some parametric insurance coverage purchased by the tourism and airline industry.
The World Bank bond will test the market to assess whether there is appetite from investors for pandemic risks issued by players outside the insurance and reinsurance industries.
Priya Basu, a manager at the development finance department at the World Bank, said she expects the bond will pay a coupon of about 8.5 percent a year, which would be lower than the opening price for other CAT bond initiatives previously launched by the organization, such as the Caribbean Catastrophe Risk Insurance Facility.
The World Bank’s pandemic bond is part of a broader project called Pandemic Emergency Financing Facility, or PEF, which includes both a bond and insurance element, and aims to make $500 million available for pandemic emergencies at 77 poor countries.
The bond is expected to raise $300 million, while $200 million will be placed in the reinsurance market. Munich Re and Swiss Re are the insurance partners of the project.
The costs related to the bonds and insurance premiums are subsidized by donor countries, but the idea is that the facility will become a purely market-based one in the future.
“We are working both on a bond issuance and with the reinsurance market because we want to target a range of different investors with different risk appetites,” Basu said. “We expect that, over time, countries will be able to pay their own premiums and coupons.”
“One of the goals of the World Bank is to promote the utilization of market-based catastrophe schemes by governments that would otherwise struggle to provide urgent assistance to its citizens.” — Priya Basu, manager, development finance department, World Bank
The coverage would be activated when the aggregate number of deaths caused by a pandemic, as confirmed by the World Health Organization, reaches a certain limit. The formula also includes data about the rate of growth of the disease and the acceleration in the number of fatal cases. The index is calculated globally, but the payout is only released to the 77 countries covered by the program.
The facility is complemented by a cash component, worth between $60 million to $100 million, which can be employed in case of a severe pandemic that does not cause enough deaths to trigger either the bond or the insurance coverage.
According to Basu, that is the money that could be used for Zika outbreaks, where the number of expected deaths is relatively low.
“There is a financing gap from the moment it is clear that there is an outbreak with pandemic potential, but it has not become pandemic yet. That is when the PEF comes in,” she said. “The parametric trigger enables us to respond in a much quicker and more timely manner.”
One of the goals of the World Bank is to promote the utilization of market-based catastrophe schemes by governments that would otherwise struggle to provide urgent assistance to its citizens, Busa said.
In her view, the use of facilities such as the PEF could result in significant savings of public resources and, especially, in reducing losses of life. If PEF was up and running back in 2014, she said, international money to fight off the the Ebola pandemic could have started to flow to the affected countries more quickly.
Instead, it took extra months to gain any steam, resulting in the cost of billions of dollars and thousands of lives.
The disease covered by the $500 million bond and insurance facility includes some kinds of influenza, SARS, MERS, Ebola, Marburg and other zoonotic diseases like the Lassa Fever.
Hailstorms Grow Less Predictable and More Expensive
Hailstorms increased in frequency and severity over the last 20 years, largely a result of climate change and more extreme weather conditions. Insurance costs are spiking as a result, too.
Hail causes about $1 billion in damage to crops and property in the United States every year, according to the National Oceanic Atmospheric Administration (NOAA).
In 2015, NOAA’s Severe Storms database recorded 5,411 major hailstorms. The worst affected area was Texas, with 783 hailstorms.
“The hardest part for some customers has been that there have been successive hailstorms.” — Jill Dalton, managing director, Aon Global Risk Consulting
This year, hailstorms in late March and April are expected to result in total losses to vehicles, homes and businesses in north San Antonio and Bexar County of more than $2 billion, according to the Insurance Council of Texas.
San Antonio’s first hailstorm on April 12 became the costliest hailstorm in Texas history, the council said.
Between 2000 and 2013, U.S. insurers paid out almost $54 billion in claims from hail losses, and 70 percent of the losses occurred in just the last six years, said a report by Verisk Insurance Solutions.
The average claim severity was also 65 percent higher during that period, than from 2000 to 2007, the report said. Most losses were from broken windows and roof damage.
Added to that, hailstorms are increasingly harder to forecast and are occurring in unlikely places, with reports of hail this year in warmer climates such as South Florida.
Trying to Better Understand How Hail is Produced
Now, insurers and scientists are trying to better understand how hail is produced and take steps to mitigate damage.
“The hardest part for some customers has been that there have been successive hailstorms,” Jill Dalton, managing director at Aon Global Risk Consulting.
“When it happens over such a short period of time, as in the case of the recent Texas hailstorms, it’s hard to deduce what was damage from the first storm versus the third or fourth storm.”
Steve Bowen, director at Aon Benfield’s Impact Forecasting team, said that the location and intensity of the hailstorm were the most important factors in determining the magnitude of hail damage.
For example, if a hailstorm hits a more densely populated area it is likely to cause more damage.
“It is really important to emphasize that the total number of hail reports does not necessarily correlate to either higher or lower level of losses,” he said.
He said that, overall, insurable damage resulting from severe convective storms in the United States increased by 6.5 percent above the rate of inflation annually since 1980, most of which was attributed to hailstorms.
“The research done will also enable us to characterize the event in order to forecast future storms more effectively.” — Ian Giammanco, lead research meteorologist, IBHS Research Center
The Insurance Institute of Business & Home Safety (IBHS), a consortium of insurers, has been working with the National Center for Atmospheric Research in Boulder, Colo., to find ways to strengthen homes and businesses against hail damage.
“Overall hail losses are going up and a lot of it is to do with that fact that we are simply putting a lot more stuff in the path of storms nowadays,” said Ian Giammanco, lead research meteorologist at the IBHS Research Center.
“So, moving forward now, risk mitigation strategies are going to become much more important and that can be achieved with improved product and testing to ensure that they are properly hail resistant.
“The research done will also enable us to characterize the event in order to forecast future storms more effectively.”
Take Steps to Reduce Losses
Lynne McChristian, Florida representative for the Insurance Information Institute, said that given the difference in quality of roofing materials in terms of impact resistance, it was paramount to invest in the proper type of covering.
Others steps include making sure that the roof is fully secured.
The insurance industry has an Underwriters Laboratory standard for roofing material with four classes of impact level. Class 4 is the most resistant. In some cases, insurers will provide a discount for roofs made with hail resistant materials.
After the event, it is important to assess any damage and protect property against further damage by covering broken windows and plugging holes in the roof.
Most property insurance policies will cover against hail damage, as will comprehensive auto coverage.
“A hailstorm is a typically covered loss included as a named peril,” said Dalton.
She added that usually there are no policy limits on hail and most coverage is subject to a deductible.
In hail prone areas, such as Texas and South Carolina, the deductible is higher than for other perils. However, both states have a fund to provide hail coverage in areas where it is not available in the private market.
After the event, it is important to assess any damage and protect property against further damage by covering broken windows and plugging holes in the roof.
It is also key to file claims as soon as possible and to keep any receipts for purchases made for immediate repairs and to then submit them to your insurer.
Electronic Waste Risks Piling Up
The latest electronic devices today may be obsolete by tomorrow. Outdated electronics pose a rapidly growing problem for risk managers. Telecommunications equipment, computers, printers, copiers, mobile devices and other electronics often contain toxic metals such as mercury and lead. Improper disposal of this electronic waste not only harms the environment, it can lead to heavy fines and reputation-damaging publicity.
Federal and state regulators are increasingly concerned about e-waste. Settlements in improper disposal cases have reached into the millions of dollars. Fines aren’t the only risk. Sensitive data inadvertently left on discarded equipment can lead to data breaches.
To avoid potentially serious claims and legal action, risk managers need to understand the risks of e-waste and to develop a strategy for recycling and disposal that complies with local, state and federal regulations.
The Risks Are Rising
E-waste has been piling up at a rate that’s two to three times faster than any other waste stream, according to U.S Environmental Protection Agency estimates. Any product that contains electronic circuitry can eventually become e-waste, and the range of products with embedded electronics grows every day. Because of the toxic materials involved, special care must be taken in disposing of unwanted equipment. Broken devices can leach hazardous materials into the ground and water, creating health risks on the site and neighboring properties.
Despite the environmental dangers, much of our outdated electronics still end up in landfills. Only about 40 percent of consumer electronics were recycled in 2013, according to the EPA. Yet for every million cellphones that are recycled, the EPA estimates that about 35,000 pounds of copper, 772 pounds of silver, 75 pounds of gold and 33 pounds of palladium can be recovered.
While consumers may bring unwanted electronics to local collection sites, corporations must comply with stringent guidelines. The waste must be disposed of properly using vendors with the requisite expertise, certifications and permits. The risk doesn’t end when e-waste is turned over to a disposal vendor. Liabilities for contamination can extend back from the disposal site to the company that discarded the equipment.
Reuse and Recycle
To cut down on e-waste, more companies are seeking to adapt older equipment for reuse. New products feature designs that make it easier to recycle materials and to remove heavy metals for reuse. These strategies conserve valuable resources, reduce the amount of waste and lessen the amount of new equipment that must be purchased.
Effective risk management should focus on minimizing waste, reusing and recycling electronics, managing disposal and complying with regulations at all levels.
For equipment that cannot be reused, companies should work with a disposal vendor that can make sure that their data is protected and that all the applicable environmental regulations are met. Vendors should present evidence of the required permits and certifications. Companies seeking disposal vendors may want to look for two voluntary certifications: the Responsible Recycling (R2) Standard, and the e-Stewards certification.
The U.S. EPA also provides guidance and technical support for firms seeking to implement best practices for e-waste. Under EPA rules for the disposal of items such as batteries, mercury-containing equipment and lamps, e-waste waste typically falls under the category of “universal waste.”
About half the states have enacted their own e-waste laws, and companies that do business in multiple states may have to comply with varying regulations that cover a wider list of materials. Some materials may require handling as hazardous waste according to federal, state and local requirements. U.S. businesses may also be subject to international treaties.
Developing E-Waste Strategies
Companies of all sizes and in all industries should implement e-waste strategies. Effective risk management should focus on minimizing waste, reusing and recycling electronics, managing disposal and complying with regulations at all levels. That’s a complex task that requires understanding which laws and treaties apply to a particular type of waste, keeping proper records and meeting permitting requirements. As part of their insurance program, companies may want to work with an insurer that offers auditing, training and other risk management services tailored for e-waste.
Insurance is an essential part of e-waste risk management. Premises pollution liability policies can provide coverage for environmental risks on a particular site, including remediation when necessary, as well as for exposures arising from transportation of e-waste and disposal at third-party sites. Companies may want to consider policies that provide coverage for their entire business operations, whether on their own premises or at third-party locations. Firms involved in e-waste management may want to consider contractor’s pollution liability coverage for environmental risks at project sites owned by other entities.
The growing challenges of managing e-waste are not only financial but also reputational. Companies that operate in a sustainable manner lower the risks of pollution and associated liabilities, avoid negative publicity stemming from missteps, while building reputations as responsible environmental stewards. Effective electronic waste management strategies help to protect the environment and the company.
This article is an annotated version of the new Chubb advisory, “Electronic Waste: Managing the Environmental and Regulatory Challenges.” To learn more about how to manage and prioritize e-waste risks, download the full advisory on the Chubb website.
This article was produced by the R&I Brand Studio, a unit of the advertising department of Risk & Insurance, in collaboration with Chubb. The editorial staff of Risk & Insurance had no role in its preparation.