The changing nature of aircraft ownership over the last few years has meant that airlines have increasingly tended to lease rather than own aircraft. The crisis between Russia and Ukraine, which has involved the seizure of around 400 leased aircraft,1 is forcing both insurance and the reinsurance markets to reassess their approach to the hull war market.
While the recent outbreak of hostilities in Sudan is highly unlikely to be of a comparable magnitude, aircraft and airport facilities have been in the path of the fighting which is likely to keep the issue high on the agenda during insurance negotiations.2
Airline operations use hull and liability insurance policies to insure their assets and potential liabilities against unforeseen, accidental events. Physical damage caused by malicious events such as war, invasion, sabotage, civil commotion, hi-jackings or confiscation, is usually covered by separate airline hull war policies. Aircraft spares are typically also covered in a similar way.
As a result, airline hull war and airline hull and liability are two distinct marketplaces that work on different market cycles, and airline hull war has tended to be treated as an add-on rather than a central part of an airline’s insurance negotiations.
There are several reasons for this. Primarily, aircraft and other aviation assets tend to be well protected behind extensive physical security, but they are also very high value, so hull war is classified as a low-frequency/high-severity risk.
The nature of a hull war claim tends to involve total rather than partial losses and the value of an aircraft’s hull is almost always very clearly defined, making claims relatively easy to negotiate and resolve.
Airline hull war also only covers first party property, so there is never a need for negotiations or third-party property or liability claims estimates.
Airline hull war claims, by their nature, are extremely difficult to predict. Operators can take precautions to avoid geographical areas that are perceived to be dangerous, but it is impossible to say with certainty when and where a malicious event that affects aviation assets will occur.
As a result, pricing for hull war risks is usually calculated on a reactive, rather than a predictive basis. This means that prices usually rise significantly in the immediate aftermath of a claim.
Reactive pricing creates several challenges for insurers though. How do they decide whether the current market pricing levels are sufficient, and at what point have they got enough critical mass to make participation worthwhile?
Equally, how can an active insurer that has paid a significant claim balance its books given that after a claim, prices rise rapidly and attract new, opportunistic participants that haven’t been involved with the original claim? Beyond this, what is the availability of reinsurance protection?
The answer to these questions varies from year to year, but given the relatively low level of airline hull war claims leading up to 2022, the price of the policy has been drifting down for some time.
In the past, aviation losses have been mostly limited to individual events affecting particular operators at specific locations. This means that the worst-case loss could be an outbreak of war or a terrorist event destroying several of an airline’s aircraft on the ground and the airline’s policy hitting its aggregate limit.
While this would be catastrophic for an affected insurer’s annual results, it would represent a known loss and a defined amount, so the claim would be made against a single insurance policy. It would also grant the opportunity for a market reaction in pricing in order to recoup losses over subsequent years.
Over the last few years though, a larger and larger proportion of the world’s aircraft fleet has become leased rather than owned. From an insurance perspective, these leased fleets are covered on a contingent basis, so that in the event of an incident where an operator’s policy does not respond for any reason, lessors have their own back up hull war policy to protect their assets.
Because it is contingent exposure, the risk has tended to be viewed as relatively remote compared to operator war risks. This means that it has benefitted from significantly lower rates.
A large lessor is likely to have aircraft leased to airlines across several countries and insurance pricing has tended to be based on the perceived risk of individual, localised events. The problem with this approach has been exposed by the crisis between Russia and Ukraine.
As we discussed in this recent article3, the Russian government’s decision to confiscate leased aircraft operating within its borders has impacted many lessors, operator-owned aircraft and spares inventories simultaneously.
It has meant that an insurance market writing both contingent hull war and operator hull war business is likely to suffer losses across several policies, with many different aggregate limits accumulating depending on the scale of the event. Losses have the potential to run into the billions. The hull war market has never charged premium to cater for this type of outcome.
While it could be suggested that this is the sort of outcome that the insurance market should have taken into account, ultimately, there has never been a loss of this nature. Even if it had been priced in in the past, the mostly benign environment over the last quarter of a century in Europe would likely have meant that there was an oversupply of insurance capacity and competitive pressure would have driven prices down. This is the nature of any market.
Given the scale of the recent losses, reinsurance markets have move quickly to restrict both the coverage they offer insurers and their capacity and aggregate limit protection.
Understandably these reinsurers are also significantly increasing the premiums they charge to insurers just at the point where the direct hull war market is trying to remediate itself by raising prices. As a result, hull war prices have already risen significantly for all airline operator policies and further increases are likely. The increases that lessor policies are having to endure are even more significant.
Given how this previously unforeseen situation is affecting the marketplace, it seems likely that we are in the midst of a fundamental change in the way that leased aircraft will be insured in the future. The airline hull war policy has historically been viewed as ancillary, a small part of an airline’s overall insurance spend. It is likely to feature far more prominently in the future.
1 Five Russian airlines have returned leased jets -document
2 Parked aircraft take fire as fighting engulfs Khartoum
3 Assessing the airline insurance implications of the crisis between Russia and Ukraine
