Insights from the Outsmarting Uncertainty webinar series.
Alternative risk transfer (ART) solutions could provide efficient ways to steer your organization through the ongoing hard property risk market. But a lack of organizational experience with ART may prevent you from introducing these alternatives to traditional indemnity policies into your property risk management strategy.
While historically, ART arrangements, such as structured or parametric solutions, may have been used as an option of last resort where traditional insurance coverage was not available, improved data and modelling is refining how businesses can incorporate ART solutions. These ‘alternatives’ are becoming increasingly mainstream.
In this insight, we offer a guide for risk managers and their colleagues unfamiliar with ART solutions, enabling businesses to consider a wider range of options to meet hard market challenges.
What are alternative risk transfer solutions?
ART solutions fall into three key areas:
These three ART categories reflect a sliding scale from risk transfer (parametric) to risk retention (fronting). You can use any and all of these ART arrangements in isolation or in combination in a property risk management program.
How do parametric solutions work?
Organizations have been using parametric solutions as we broadly know them since the 1990s. However, we’ve seen these instruments remain untapped amongst many businesses, though this is beginning to change.
Parametric solutions are predicated on the idea that as the intensity of an event increases, so does the potential for loss. Parametric products use data-defined scales of intensity as an indices, paying out when the trigger threshold on that index is breached. This could be related to days without significant rainfall, or the size of hailstones, to give two climatic metrics.
There are three key drivers to consider using parametric solutions in managing property risk:
Where premium exceeds 30% of the limit provided – what we would term a ‘distressed’ area of the market – your insurer is essentially telling you it is pricing for at least one maximum loss over a three-to-five-year period. Structured solutions pre-finance that first loss.
Let’s imagine a multiyear structured arrangement where you pay a premium over a five-year policy period. The insurer retains part of your premium with the other proportion allocated to an ‘experience account’. Should your organization experience a loss within the policy period, the insurer exhausts the experience account first before eroding the embedded risk transfer. If you don’t experience a loss before the policy expires, the experience account balance is returned to you.
You could face a number of obstacles to incorporating ART into your property risk management program. Externally, the timing of your enquiries to insurers may not coincide with them having sufficient bandwidth or appetite. Internally, strategic decision makers may not be familiar with ART solutions and the whole concept of considering alternatives to traditional insurance could feel like a move too far beyond their comfort zone.
Early engagement with markets can help overcome timing issues, while analytics can both prove the validity of an ART concept and inform efficient structuring and pricing. Putting numbers against an ART proposal that demonstrate validity and financial value can also provide crucial insight and comfort to C-suite colleagues.
We do not expect the hard property risk market conditions to change in the near future. This means its vital risk professionals enable organizations to consider the alternatives.
Deciding whether an ART solution is the right way to outsmart ongoing property risk uncertainty starts with defining what’s critical to your organization. For example, is immediate access to cash essential to the business, or is longer-term stability of coverage, premiums and cash-flow management the core objective?
After defining the critical aims in play, you’ll want to compare how the current approach addresses these criteria with the proposed ART solution.
We see organizations that successfully incorporate ART solutions into their risk management sharing a number of characteristics:
For specialist support to understand whether an ART solution should be part of your property risk management program, get in touch.
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