ILS & reinsurance can increase participation in nat cat schemes

The ILS market continues to provide valuable support in terms of both capacity and its features to vital natural catastrophe schemes across Europe, helping to alleviate some of the financial burden felt by governments when disaster strikes.

Natural catastrophe events across Europe, the U.S. and the rest of the world continue to cause a high volume of economic losses year after year.

And despite some of the costs being absorbed by the insurance, reinsurance, and insurance-linked securities (ILS) markets, the protection gap for some perils and regions remains significant, highlighting an opportunity for re/insurance and ILS markets to play a greater role.

“This is because currently, across Europe, there is significant disparity in terms of insurance penetration, catastrophe exposure and disaster preparedness,” said ratings agency A.M. Best in a new report.

In Europe, and other parts of the globe the establishment of natural catastrophe re/insurance schemes has gained momentum in light of increased losses from natural disasters, and extremely high risks resulting in unaffordable premiums for policyholders.

Utilising insurance, reinsurance and capital markets capacity the schemes help to alleviate the financial burden from governments and societies when a large flood event, earthquake, hailstorm and so on, occurs that causes significant damage.

Typically launched in partnership with public and private sector organisations, the nat cat pools are designed to create affordable protection against catastrophe events where the local markets lack the capacity to do so.

As highlighted by A.M. Best insurance penetration levels across some regions and perils in Europe remain low, despite the local markets being relatively mature and developed in comparison to emerging markets.

As a result of the variety of risks and potential damage caused, the ILS market provides a valuable source of diversified capacity, sophisticated features and mechanisms that assist the insurance and reinsurance markets that participate in the schemes.

“More recently, with the involvement of international institutions such as the World Bank, regional catastrophe pools have been set up in the Caribbean, Africa and Asia-Pacific to compensate governments for the impact of natural catastrophes.

“Both regional natural catastrophe pools and country-specific schemes often make use of the reinsurance and capital markets to transfer their peak risks,” said A.M. Best.

Natural catastrophe funds in emerging and developed markets have the potential to create affordable protection for those in need, but importantly they remove much of the cost from governments, and ultimately taxpayers.

A.M. Best explains that in countries like Germany where no nat cat scheme is in place but the local insurance and reinsurance market is sophisticated, there is perhaps less need for a catastrophe scheme.

“However, for policyholders in highly-exposed areas, such policy extensions are less affordable,” explains A.M. Best, underlining that even in areas such as this the re/insurance and ILS markets could be utilized to increase penetration levels and ultimately narrow the country’s protection gap.

The ratings agency explains that throughout Europe it feels flood risk is the most prevalent catastrophic peril, which has increased in frequency and severity in recent years.

Despite the UK, Spain, and France establishing catastrophe funds to cope with the exposures, utilizing re/insurance and capital markets backed capacity; other regions across Europe are still dangerously exposed to flooding events.

And it’s not just flooding across Europe that remains underinsured and that could benefit from the features and capacity of natural catastrophe schemes, suggesting that re/insurance and ILS markets could have a greater role to play in the future.

“Both at a European and international level, there is growing awareness of the need
to develop and implement strong disaster risk management policies that aim to build resilience against natural disasters.

“Natural catastrophe schemes are one mechanism through which disasters can be more effectively financed and mitigated, alleviating governments’ financial burden and supporting initiatives to reduce the economic impact of natural disasters in the future,” said A.M. Best.

A.M. Best highlights that it certainly isn’t “one size fits all” when it comes to natural catastrophe funds, as the disparity in penetration levels, risk exposures, and preparedness varies greatly.

So it will take a continued effort from both public and private sector organisations to replicate and expand on existing funds, and establish new ones so that more people can be adequately protected against the impacts of natural catastrophes.