UK cold weather leads to insurance claims; weather derivatives an answer for insurers?

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The United Kingdom is experiencing an extremely cold spell of weather at the moment. Last night temperatures dropped to -8C in some areas and temperatures have been below freezing for much of the last two weeks.

The Telegraph newspaper reports that ‘sub-zero temperatures are causing an “alarming” number of water damage claims in homes across Britain, with up to 25 in a day, according to insurer NFU Mutual.’ This cold spell is unusual for the UK and probably only has a 1 in 20 year likelihood of occurrence (we always get sub-zero temperatures, just not for prolonged periods).

Insurers need to protect themselves against these spikes in claims and would generally claim on their reinsurance for losses such as this. In these more rare cases, would insurers be better advised to dive into the world of weather derivatives and index-based weather risk management to purchase protection which is triggered when weather extremes occur? Or would that prove more expensive than reinsurance. To me it would seem a more flexible solution which can be tailored by their risk profile. What do you think?

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