How parametric insurance can help close the protection gap

Aon’s Michael Gruetzmacher, Benjamin Miliauskas and Alex Davies explain why leaders must be prepared to make better decisions when faced with natural catastrophes, particularly in light of the 69 percent protection gap in 2023, starting with the use of parametric insurance.

Parametric insurance is an innovative, transformative and straight-forward solution well-suited for “grey swan” catastrophic events, including floods, earthquakes, named windstorms, hailstorms, tornadoes and wildfires, among other perils. That includes secondary perils, such as non-damage business interruption, loss of attraction, loss of ingress/egress, and sub-limited or excluded coverage.

In 2023, multiple parametric insurance payouts helped local governments to overcome the impacts of natural disasters.

For example, the Caribbean Catastrophic Risk Insurance Facility facilitated $2.9mn for Antigua and Barbuda and $0.5mn for the British Virgin Islands in response to Tropical Storm Philippe, plus $1.5mn for St Kitts and Nevis in response to Hurricane Tammy.

Parametric insurance’s flexibility also makes it well-suited for other exogenous events. Capacity providers can underwrite parametric policies that address exposures related to a drop in tourism volume, pandemics, cloud service outages and other situations where there is a clear impact that can be described by independent data.

Known unknowns like grey swan natural catastrophe events are where parametric shines. Parametric solutions are:

  • Independent: Triggering parameters are measured and reported by a third party. Risk managers can clearly define events that will and will not result in paid claims, as well as the sum of those claims
  • Fast: Because there is a clear event trigger, claim settlement is quicker and more transparent. Coverage is usually confirmed within days and funds arrive within weeks – avoiding a complex loss adjustment process
  • Flexible: Any financial loss ensuing from a triggering event can be an indemnifiable expense under parametric insurance

Further, parametric insurance does not pose the same capacity challenges as traditional insurance, making it ideal for businesses that are unable to secure traditional cover.

Modern data allows for added precision when it comes to determining parametric triggers. As it improves over time, parametric cover will become more efficient and economic as a complement to traditional property coverage – especially where capacity and pricing issues continue in traditional indemnity markets.

This will enable businesses to manage risk more effectively, and ultimately achieve improved operational resilience.