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Alabama has made a three-year agreement with Swiss Re in which Swiss Re will pay the state for wind losses based on documented wind speed in the event of a hurricane.
Similar to a derivative, but called a parametric insurance solution, Swiss Re compensates the buyer based on the physical characteristics of a disaster. The payment can be used for any purpose, including emergency response costs, replacing lost tax revenue and funding of increased insurance costs, Swiss re said.
Swiss Re is providing the insurance cover for the Alabama State Insurance Fund’s catastrophic hurricane exposure.
“It’s latitude and longitude lines drawn around the coastal areas of the state—where most of the damage would occur. If a hurricane—Category 3, 4 or 5—comes through, then we collect. For [Category] 3 and 4 we get half the limit, and for a 5 we get the full limit [$10 million],” Ben M. Spillers, risk manager, Alabama Department of Finance, told NU Online News Service.
While some might call it a derivative, “We don’t deal in derivatives, so we changed it to an insurance format,” he said.
“It’s really just a cat bond,” Mr. Spillers said. “They don’t adjust losses. If a hurricane hits Category 3 or 4, it’s automatic payout within two weeks.”
Swiss Re said the agreement marks the first time a U.S. state government has utilized such a solution to transfer its financial exposure from natural catastrophes to the private sector.
“We are pleased to work with Alabama’s State Insurance Fund to help them with their risk management needs through this first-of-its-kind program,” Raj Singh, a member of the Executive Committee and chief risk officer at Swiss Re, said in a statement.
“Until now, governments, and ultimately taxpayers, have been left shouldering the burden of paying for emergency expenses and reconstruction well after the disaster has passed,” he added.
He said that in other countries, Swiss Re has worked successfully with government bodies to address this exposure. “These innovative solutions are applicable to governments of all sizes and can be applied to U.S. states [that] have an economic exposure to catastrophes—whether they be hurricanes, wildfires or earthquakes, among others.”
Swiss Re said that in 2009, it worked with Mexico’s Ministry of Finance and the World Bank to develop the MultiCat Mexico program, providing $290 million of coverage for earthquakes and hurricanes. The insurance coverage provides Mexico with emergency funds after a major disaster, helping the government address post-disaster needs.
Swiss Re said it also is the lead reinsurer of the Caribbean Catastrophe Risk Insurance Facility (CCRIF), the first parametric insurance solution covering several regional Caribbean governments.
In a demonstration of the capabilities of parametric solutions, Swiss Re said the CCRIF’s policy for Haiti was triggered following the earthquake in January 2010, delivering the Haitian government much needed emergency funds shortly after the disaster.