UN report highlights climate & disaster risk transfer inflection point

The insurance, reinsurance and capital markets risk transfer sector has reached an inflection point in terms of tools, techniques and capital to address climate and disaster risks, now demonstrating the potential to scale-up and expand in scope, according to the United Nations.

The use of insurance and reinsurance capacity, alongside capital sourced from institutional investors or insurance-linked securities (ILS) specialists, using products such as sovereign risk pooling, microinsurance, catastrophe bonds and index-based insurance, is highlighted by the UN as a long-term shift signaling the increasing ability and willingness of private sector financial markets to address climate and disaster risks.

A new report from the UN, titled “Trends in Private Sector Climate Finance,” found that the private sector has made significant progress in responding to the challenges posed by climate risks since the 2014 Climate Summit in New York.

At that summit a range of finance sector including leading executives from banks, pension funds, insurers, reinsurers and asset managers launched a series of high-profile commitments and targets to increase availability of and access to climate finance.

Part of that climate finance is a commitment to continually increase insurance penetration to the poorest, while increasing use of climate related and disaster risk transfer at the sovereign and corporate levels.

Tools such as sovereign risk pools, microinsurance schemes, parametric insurance, catastrophe bonds and ILS and index-based insurance, are all contributing to making climate and disaster risk transfer and financing more available and accessible than ever before.

The entry of the capital markets into reinsurance 20 years ago through the development of early catastrophe bonds and ILS has been a catalyst for an increasing focus on making peak-disaster and weather risk transfer more available and affordable.

The innovation seen in the reinsurance industries embracing of third-party capital and the ILS specialist managers, has stimulated a wave of new products and also helped to increase the knowledge and understanding of risk transfer much more broadly than before.

Now the UN believes that the insurance, reinsurance and ILS space stands at an inflection point, with the potential to rapidly scale-up these responsive risk transfer and financing products like never before and expand them geographically as well.

The report argues that now the groundwork has been prepared by the private sector, it is time for policy makers to take action so as to speed up the pace of private sector investment and engagement.

The report highlights the “he sustained scaling up of efforts by the insurance sector to respond to the climate impacts that are already locked in” as a key inflection point in the drive to address climate risks.

It explains:

The insurance sector is scaling up its efforts to respond to the climate impacts that are already locked in.

There has been a steady rise across both developed and developing countries in the number of lives and value of assets insured, and an improvement in risk reduction and disaster response measures. Over the past three decades, the proportion of weather-related losses insured in developed countries has risen from roughly 30% to 50%. In developing countries, the proportion of weather-related losses insured has risen significantly from roughly 1-3% on average in the 1980s and 1990s to roughly 4-10% on average since 2005.

This has been enabled by more sophisticated tools for understanding the causes of risk and vulnerability, and by a range of expanding products and approaches, such as sovereign risk pooling, microinsurance, catastrophe bonds and index-based insurance.

Many of these seem to have reached an inflection point, demonstrating the potential for rapid scale-up and expansion of geographic scope.

Key to all of this is the ability of the private sector to “reduce the cost of capital and insurance” the report explains. Here, the convergence of capital markets with reinsurance and the emergence of catastrophe and other insurance risks as an asset class (as ILS) has been a catalyst for increasing the availability of protection.

With pre-event risk financing tools such as catastrophe bonds, parametric insurance, index-insurance and other mechanisms all embedded in the re/insurance and ILS market as common practice and the cost of risk capital reducing, the market is poised to be able to expand its remit and broaden the protection it offers.

The report highlights that there remains a considerable amount of climate, weather and disaster losses uninsured, emphasising the important role that insurance, reinsurance and ILS has to play in narrowing the protection gap.

If political will can get behind the goal of growing insurance penetration, expanding peak-disaster and weather related covers, encouraging corporations to take responsibility for the disaster and climate risks their business, shareholders and employees face, then the re/insurance and ILS sectors are ready to support a rapid scale-up of protection.

The key is to address this in a holistic, sustainable, private market focused-but public sector supported, way. To ensure that efforts made are both sustainable for the local markets, the international players and ultimately the people requiring protection.

The private sector appetite exists, the capital and risk capacity exists, the risk transfer and financing mechanisms exist. Now the political will is becoming increasingly evident and the task over the coming months is to bring the two together.

Read our series of articles focused on the insurance protection gap – underinsurance in emerging and developing economies and the gap between economic and insurance losses – an opportunity that is on every reinsurance CEO’s lips and which presents the largest opportunity to put excess risk transfer capital to use, requiring both traditional and capital markets support.