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Aviation Woes

Coping with Cancellations

Could a weather-related insurance solution be designed to help airlines cope with cancellation losses?
By: | April 23, 2014 • 4 min read
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Airlines typically can offset revenue losses for cancellations due to bad weather either by saving on fuel and salary costs or rerouting passengers on other flights, but this year’s revenue losses from the worst winter storm season in years might be too much for traditional measures.

At least one broker said the time may be right for airlines to consider crafting custom insurance programs to account for such devastating seasons.

For a good part of the country, including many parts of the Southeast, snow and ice storms have wreaked havoc on flight cancellations, with a mid-February storm being the worst of all. On Feb. 13, a snowstorm from Virginia to Maine caused airlines to scrub 7,561 U.S. flights, more than the 7,400 cancelled flights due to Hurricane Sandy, according to MasFlight, industry data tracker based in Bethesda, Md.

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Roughly 100,000 flights have been canceled since Dec. 1, MasFlight said.

Just United, alone, the world’s second-largest airline, reported that it had cancelled 22,500 flights in January and February, 2014, according to Bloomberg. The airline’s completed regional flights was 87.1 percent, which was “an extraordinarily low level,” and almost 9 percentage points below its mainline operations, it reported.

And another potentially heavy snowfall was forecast for last weekend, from California to New England.

The sheer amount of cancellations this winter are likely straining airlines’ bottom lines, said Katie Connell, a spokeswoman for Airlines for America, a trade group for major U.S. airline companies.

“The airline industry’s fixed costs are high, therefore the majority of operating costs will still be incurred by airlines, even for canceled flights,” Connell wrote in an email. “If a flight is canceled due to weather, the only significant cost that the airline avoids is fuel; otherwise, it must still pay ownership costs for aircraft and ground equipment, maintenance costs and overhead and most crew costs. Extended storms and other sources of irregular operations are clear reminders of the industry’s operational and financial vulnerability to factors outside its control.”

Bob Mann, an independent airline analyst and consultant who is principal of R.W. Mann & Co. Inc. in Port Washington, N.Y., said that two-thirds of costs — fuel and labor — are short-term variable costs, but that fixed charges are “unfortunately incurred.” Airlines just typically absorb those costs.

“I am not aware of any airline that has considered taking out business interruption insurance for weather-related disruptions; it is simply a part of the business,” Mann said.

Chuck Cederroth, managing director at Aon Risk Solutions’ aviation practice, said carriers would probably not want to insure airlines against cancellations because airlines have control over whether a flight will be canceled, particularly if they don’t want to risk being fined up to $27,500 for each passenger by the Federal Aviation Administration when passengers are stuck on a tarmac for hours.

“How could an insurance product work when the insured is the one who controls the trigger?” Cederroth asked. “I think it would be a product that insurance companies would probably have a hard time providing.”

But Brad Meinhardt, U.S. aviation practice leader, for Arthur J. Gallagher & Co., said now may be the best time for airlines — and insurance carriers — to think about crafting a specialized insurance program to cover fluke years like this one.

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“I would be stunned if this subject hasn’t made its way up into the C-suites of major and mid-sized airlines,” Meinhardt said. “When these events happen, people tend to look over their shoulder and ask if there is a solution for such events.”

Airlines often hedge losses from unknown variables such as varying fuel costs or interest rate fluctuations using derivatives, but those tools may not be enough for severe winters such as this year’s, he said. While products like business interruption insurance may not be used for airlines, they could look at weather-related insurance products that have very specific triggers.

For example, airlines could designate a period of time for such a “tough winter policy,” say from the period of November to March, in which they can manage cancellations due to 10 days of heavy snowfall, Meinhardt said. That amount could be designated their retention in such a policy, and anything in excess of the designated snowfall days could be a defined benefit that a carrier could pay if the policy is triggered. Possibly, the trigger would be inches of snowfall. “Custom solutions are the idea,” he said.

“Airlines are not likely buying any of these types of products now, but I think there’s probably some thinking along those lines right now as many might have to take losses as write-downs on their quarterly earnings and hope this doesn’t happen again,” he said. “There probably needs to be one airline making a trailblazing action on an insurance or derivative product — something that gets people talking about how to hedge against those losses in the future.”

Katie Kuehner-Hebert is a freelance writer based in California. She has more than two decades of journalism experience and expertise in financial writing. She can be reached at riskletters@lrp.com.
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Danger in the Air

Aviation Pricing up Sharply

Worldwide losses could top $600 million, but impact on US airlines is muted.
By: | October 15, 2014 • 3 min read
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The horrors of airline disasters have been flashing on cable news for 24 hours, seven days a week, for months.

Four months ago, Malaysian Airlines Flight MG370 disappeared en route to Beijing with 239 passengers. Then on July 17, pro-Russian rebels apparently blasted Malaysian Airlines Flight MH17 out of the sky over eastern Ukraine, killing all 298 passengers on board.

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While The Guardian asked the legitimate question of whether Malaysian Airlines will survive the double-header disasters, the aviation insurance industry on the whole appears to be on solid ground.

“For the most part is, there hasn’t been a real knee-jerk reaction,” said Garrett Hanrahan, U.S. aviation practice leader for Marsh in Dallas. “The market has been rational in the way that it has approached what has happened.”

That’s saying something, given what the market is facing.

The war hull market takes in $60 million in worldwide premium but is looking at 10 times that in losses from recent events, estimated Hanrahan’s colleague, Brian Glod, Marsh’s U.S. airline practice leader in New York.

That includes paying out the full property value of MH17 as well as half of the missing Malaysian plane (with all-risk aviation taking the other half; common practice in these “unknown cause” scenarios).

Video: This report from the Canadian Broadcasting Corp. looks at how Malaysia Airlines Flight MH17 ended up flying in the volatile Eastern Ukraine region.

Then, there’s the biggest event from a monetary standpoint: a two-day battle between rebel groups in July that destroyed up to 12 aircraft at Tripoli’s airport in Libya. This event’s total losses could be upward of $500 million, Glod said.

While war hull underwriters may not be panicking, as Hanrahan suggested, they are looking to collect.

Paul Tuhy, head of XL’s Global Aviation business, reported he’s heard of rate increases in the market of 300 percent to 1,000 percent.

The other aviation coverage impacted is primary hull and liability, and underwriters there can be expected to recover losses in upcoming premiums. They’re also getting hit with the July 24 crash of Air Algerie Flight 5017, where terrorism was ruled out, and the July 23 crash of TransAsia Flight GE222, mostly likely caused by weather.

“I do think the market will react with rate increases,” Tuhy said, indicating it’s been a soft market looking for a rationale to pivot.

Still, underwriters aren’t panicking because, as A.M. Best reported in a briefing on MH-17, no ratings actions will result from the losses.

That, and the competitiveness in the primary aviation market, means ample availability.

“There still is an enormous amount of capacity in the aviation insurance marketplace, and that is keeping a lid on the pot,” said Hanrahan, echoing the conclusions of the Best report.

Airlines appear to be handling the spate of incidents in stride as well. Recent news reports (such as this article in The Economist) have made much of airlines’ decisions to reroute (or not reroute) flights away from Ukraine and other war zones.

These decisions, said Glod, are coming from senior management, well above the risk manager’s head.

But risk managers will be the ones asked by underwriters about flight paths and whether their planes will come close to hotspots.

“They’re asking those questions now,” Glod said, of underwriters.

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The result could be a tiered underwriting approach, Hanrahan said, where insurers will break down operators’ risk geographically — where do they fly to, over and from?

In such a system, U.S. operators — which are “extremely diligent and cautious,” said Glod — most likely will not pay a disproportionate amount of the rate increases.

XL confirmed that it has been asking about plane flight paths, said Tuhy.

These terrible incidents do not happen very often, he said, but “but when they do happen, they’re bad.”

Matthew Brodsky is editor of Wharton Magazine. He can be reached at riskletters@lrp.com.
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Sponsored Content by Riskonnect

3 + 3: Theory of Risk

A risk management professional constructed a versatile system that he can really believe in.
By: | November 3, 2014 • 5 min read
SponsoredContent_Riskonnect

Anthony Valsamakis doesn’t just practice risk management, he wrote a book about it. And he doesn’t just consult with quants, he is one.

“Risk management has been in my blood for so long that I have to stop myself, otherwise I could go into a two-hour monologue,” said Valsamakis, whose career in the discipline goes back almost 35 years, to his first job with the Standard General Insurance Company.

In 1990, the London-based chairman of the Eikos Group received a doctorate in Business Economics. In 1992, “The Theory & Principles of Risk Management” was published, with Valsamakis the principal author, and is now in its 4th edition.

Valsamakis worked first with a carrier, then as a commodities broker, before taking up an academic post. The company he started in 1999, the Eikos Group, has a risk consulting arm, with clients in most industrial sectors, including the food, mining, forestry, industrial paper and packaging and banking industries. The group also includes a transportation risk brokerage and a Bermuda-based carrier.

SponsoredContent_Riskonnect“I think the idea of having a secure data base that everyone can access and can update at any moment is by far the best innovation that I can see happening in the information game.”
– Anthony Valsamakis, Chairman, Risk Financing Strategy, Eikos Group

For as long as he can remember, Valsamakis sought ways to get better information on the risks he underwrites, brokers or consults on.

“Over many years we’ve tried hard to increase the quality and timeliness of the information that enables us to do just that,” Valsamakis said.

Finally, it looks like Valsamakis has found a risk management information systems platform that enables him to do just that.

For the past year and a half, Valsamakis has been using a system developed by Riskonnect.

SponsoredContent_RiskonnectValsamakis likes the Riskonnect approach for a number of reasons – one of the key reasons that the platform can be readily adapted for each of his clients, regardless of industry.

“What’s useful for me is that the platform basically resides within the client’s systems,” he said.

The information he needs to prioritize, depends on which client he is working with.

“By definition, depending on where I am working and what I am doing, risk management priorities are very different,” Valsamakis said.

The Riskonnect platform provides the necessary flexibility.

SponsoredContent_RiskonnectA mine, for example, could be in a location in Africa or South America with a high degree of political risk. A key risk for a furniture maker might be around trade secrets, the possibility that a disgruntled employee would leak a pricing catalogue to competitors. For a packaging manufacturer, their material supply chain is of the utmost importance, and so on.

For each client, Valsamakis can use Riskonnect platform and work with the client to compile the information that is most relevant to that client and its industry and enter that into a secure system.

“All of these are template facts that you can easily put into the Riskonnect system,” Valsamakis said.

The Riskonnect platform is housed within the client’s information technology system, and it is transparent enough, to give Valsamakis and his client access to the same sets of data.

“I think the idea of having a secure data base that everyone can access and can update at any moment is by far the best innovation that I can see happening in the information game,” he said.

Whose System Is It?

Valsamakis has been around long enough to know a few things about data and risk transfer. He’s seen a number of risk information management systems put out by brokers, for example, that he thinks are set up more for the broker’s business model than for the sharing of information.

Generally speaking, information about an insured’s risks come from the broker and the insured. The Riskonnect system works, according to Valsamakis, because it is designed to be adapted to the client, not the broker.

“I have seen efforts by brokers, for example, over the years to produce a type of risk information platform that becomes theirs,” Valsamakis said.

“It’s been a perennial problem in the industry, where depending on which broker you end up with, you’ll end up with system A, B or C,” he said.

The Underwriter Needs to Know

SponsoredContent_RiskonnectUsing Riskonnect, Valsamakis encourages clients to be as transparent as possible, in order to give the most complete information to underwriters.

“For me the question is, ‘What is the volatility around the asset and can there be an impact on the balance sheet of our clients?’” he said.

“We need to describe this exposure in various contexts so that the underwriters know what they are covering,” he said.

It’s basic human psychology. If an underwriter doesn’t feel they are getting enough information about a particular risk, they will take a negative view of that risk.

The more accurate the information Valsamakis has about a client’s exposures, the better the pricing he gets from underwriters.

“If you were an underwriter putting your capital and risk and I gave you little information, you would actually be less inclined to look at the risk in favorable terms. There will be a natural inclination to downgrade it,” he said.

Where Valsamakis sees enormous value is in the Riskonnect system ability to tag which can be revisited at a later stage.

“It’s amazing how clients forget, in the passage of time, that there are profiles that have changed for better or worse.”

A Long-Term Investment

The Eikos Group invested significantly in the Riskonnect product and are taking it to a number of clients. The transparency of the system and the advantage it gives the Eikos Group and its clients with underwriters is in itself a business advantage over the competition.

“We made a decision as a small company, relatively speaking, to invest a lot of money in Riskonnect and be very proactive about it,” Valsamakis said.

“When I talk to executives I say we invested in it because it’s going to save our clients money. Better information will lead to a lower cost of risk,” he said.

“If I’m talking to someone at a high level, that’s fairly easily understood.”

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This article was produced by the R&I Brand Studio, a unit of the advertising department of Risk & Insurance, in collaboration with Riskonnect. The editorial staff of Risk & Insurance had no role in its preparation.


Riskonnect is the provider of a premier, enterprise-class technology platform for the risk management industry.
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