Going beyond parametric solutions to tackle climate risks
2020 has been an active year for many atmospheric perils such as wildfires and hurricanes. As of September 18, the Atlantic basin has had 21 named storms. The last time so many named storms formed was 2005, when the National Oceanic and Atmospheric Administration ran out of English names and began using Greek letters to identify them. In addition to hurricanes, there are wildfires, drought, flooding from excessive rainfall and strong convective storms. The toll these events take continues to mount, from lives lost to property damage to destruction of crops.
Signs of climate change are widespread, from natural catastrophes to shifting seasons to temperature anomalies. For example, 19 of the 20 warmest years on record, as measured by global surface temperature, have occurred since 2001, according to the National Aeronautics and Space Administration. In coastal areas, climate change is raising sea levels, but in some inland locations, river levels are staying lower longer. These changes are forcing corporate and public-sector organizations to adapt.
As the frequency and severity of natural hazards changes, so too does the need for climate protection solutions. While climate change is a long-term phenomenon, certain aspects will have an impact in the short term. For these reasons, businesses and communities must take action to improve their resilience.
There is no single solution to climate change risk. Improving resilience to the impact of climate change, therefore, needs to encompass adaptation, real-time protection and new forms of risk transfer, such as parametric insurance. Let’s look deeper at all three elements:
To successfully adapt, when thinking about the impact on physical assets and infrastructure, it’s necessary to prepare, act and train for the potential effects of climate change at multiple timescales.
Acting on those findings takes the form of local adaptation plans. Training is needed to implement and sustain the adaptation and risk mitigation. For example, a manufacturing plant based along a river in Chile found itself facing lower than average water levels for sustained periods. As a consequence, the plant was forced to shut down temporarily as its operations depended on the river height. At first, the plant’s owners looked for an insurance solution to transfer this Non Damage Business Interruption risk. However, as the reoccurring low water levels appear to be a trend, the plant’s owners must now decide whether to invest in additional equipment to adapt to this, or even consider decommissioning the plant. Insurance can only help in de-risking the owner’s investment around volatility. Ultimately, adaptation is necessary to adjust to the trends implied by climate change.
2. Real-time protection
One of the short-term effects of climate change is likely to be increased volatility of some extreme weather perils which can lead to the need for real-time protection. Because these can arise suddenly, businesses need real-time protection. State-of-the-art technologies available today facilitate continuous global monitoring and real-time alerting when conditions pose a threat to people and property. Real-time protection enables faster and more effective responses to changing conditions, which can save lives and mitigate loss.
Climatic conditions, for example, make agricultural production prone to fluctuations. This is a major challenge for farms trying to practice sustainable agriculture. Monitoring of conditions and the impact on crops can identify optimal times to apply products designed to help plants and improve and yield.
3. Parametric insurance
An innovative approach to recovering from climate events is parametric insurance. This customized product defines coverage linked to a climate index, which is monitored in real time, and enables payouts within days. Unlike conventional insurance, parametric solutions do not require loss adjustment or on-site inspections. Traditional indemnity products typically do not cover Non-Damage Business Interruption, but parametric products can. Parametric policies can also complement traditional indemnity policies, allowing deductible buydowns. Some perils that parametric solutions can effectively cover include cyclones, earthquakes, hail storms, reduced crop yield and mild winter conditions.
A utility company, for example, could experience revenue loss during mild winters caused by climate change. When daily temperatures are warmer than expected, customers’ demand for electricity and heat tends to fall. A parametric policy tied to a heating-degree day index could protect the utility from unanticipated revenue loss.
The impact of climate change will vary for different corporate and public-sector organizations. Therefore, they should strive to understand how climate change will affect their operations, from physical risk impact, through to impacts on their supply chains to revenue production.
A better understanding of the effects of climate change, with appropriate plans for adaptation and financial protection, can lead to greater resilience and sustainability.
Stéphane Godier is regional head of the Americas for AXA Climate, a division of AXA XL. He can be reached at email@example.com.