What Is Parametric Insurance and Why Are Property Owners Using It?

Property insurance rates are surging, leaving some property owners struggling to find the coverage they need to protect their investments. To fill the gap, new risk management solutions are necessary. Parametric insurance is gaining steam as a smart and simple alternative to conventional insurance models.

Trouble in the Property Insurance Market

The Council of Insurance Agents & Brokers (CIAB) says most insurance lines are benefiting from improved capacity, but commercial property insurance stands out as an exception. In the second quarter of 2023, commercial property insurance rates were up 18.3%, deductibles were also up, limits were down, and a lack of capacity was leading to non-renewals.

Two factors appear to be largely responsible for the troubled property insurance market. First, high inflation rates have made claims more expensive. Second, natural disasters have caused massive losses. According to Swiss Re, natural disasters caused global economic losses of $275 billion in 2022, including $125 billion in insured losses, which is higher than the 10-year average. Insured losses have been growing at a rate of around 5% to 7% per year since 1992.

In some areas, the situation is so bad that property owners are struggling to find coverage. According to The Real Deal, some developers in Florida are delaying projects due to insurance costs.

Parametric Insurance Solutions

In traditional insurance, claims payouts are directly tied to actual losses. Before a claim payout can occur, the insurer must determine which losses the policy covers as well as the value of the covered losses. This claims process takes time; meanwhile, property owners are dealing with damage that requires urgent repairs. Long claims processes can also increase administrative costs. Furthermore, insurers often face a rise in fraudulent claims after widespread loss events.

Parametric insurance solves these challenges by taking a different approach to claims. Instead of being based on actual losses, parametric insurance payouts are triggered by certain events and are based on the magnitude and location of the event. For example, a hurricane parametric policy may pay out if a hurricane makes landfall in a specific area and meets certain thresholds outlined in the policy terms. In this scenario, on a $1 million dollar policy, if the maximum wind speed is between 80-90 mph, the payout would be $200,000. The limit of $1 million would be paid if wind speed exceeds 130 mph.

Since parametric policies can be flexible, the terms can cover different risks and have different triggers depending on the needs of the policyholder.

Parametric policies can mitigate many of the insurance difficulties property owners are experiencing now:

• Policyholders who are rejected for traditional coverage may be eligible for parametric coverage. Since payouts are determined by the trigger event, not the actual losses, the policyholder’s loss history is less of a factor. Likewise, insurance underwriters are less interested in things like the age and condition of the building.
• Payouts are fast. Since parametric insurers don’t have to calculate actual losses, they can issue a payment soon after a covered event occurs. The policyholder can then use the funds to cover urgent repairs and other expenses.
• Parametric policies typically don’t have a deductible. As deductibles are rising in conventional policies, this is good news for property owners dealing with disasters.

When Is Parametric Insurance a Good Option?

Parametric insurance is typically viewed as supplemental coverage – i.e., policyholders purchase it along with a conventional insurance policy to gain additional coverage. If your business has been unable to secure sufficient coverage through the traditional insurance model, a parametric policy may be a good option. For example, if:

• You have conventional insurance but the limits are too low. Insurers have been reducing limits, which may leave your business without the coverage it needs if you suffer a loss. Adding a parametric policy is a simple way to increase your coverage. If a covered loss occurs, you’ll likely receive the parametric payout first. You can use it to cover the most pressing costs. Once the traditional claims process is finished, you’ll receive your conventional insurance payout.
• You have conventional insurance but the exclusions are too restrictive. According to Washington Post, some major insurers have added exclusions for various weather events in response to extreme weather patterns caused by climate change. If your policy excludes weather events, a parametric insurance policy may be able to fill the gap.
• Your conventional insurance policy has a large deductible. To secure reasonable coverage, some property owners are having to take on massive deductibles. If a loss occurs, they may have trouble paying this amount. A parametric insurance policy can add coverage to help with the deductible.?

Don’t Wait Until a Storm Forms

Parametric insurance policies may not be available in all areas and typically have a waiting period before coverage begins. This means you can’t wait until a named storm is heading your way – by then, it will be too late to receive coverage.

Century Risk Advisors is offering parametric insurance solutions for hurricanes and other named tropical cyclones. We can review your needs to see whether this solution is suitable for you. Contact me.