New Wave of Climate Insurers Tackles Disaster Risk with Data

An old-school financial technology is attracting a new climate gloss. 

Parametric insurance has been around in one form or another since the 1800s, and the modern version originated some thirty-odd years ago. However, recent years have seen entrepreneurs and investors stampede into this space — tempted by its promise as a climate resilience tool for households, businesses, and entire countries. 

“I've spent my entire career in the [insurance] industry. I’ve seen every type of catastrophe that can happen in the country. I’ve had the opportunity to work for every type of insurance company that exists in the US, and for me, parametric is the next revolution of how coverages are going to be offered to consumers,” says Michael Gulla, CEO and Co-founder of Adaptive Insurance, a Texas-based parametric insurance startup that launched operations earlier this month.

Adaptive Insurance is one of many parametric insurers and tech startups to have splashed onto the scene of late, most of which tout their contributions to climate adaptation and resilience. In 2023, InsurTech startup Raincoat closed a US$6.5mn seed round led by Two Sigma Ventures. Also in 2023, fledgling rainfall flooding micro insurer Ric came into being. In April of this year, climate risk parametric insurance provider Arbol raised a US$60mn Series B round led by Giant Ventures and Opera Tech Ventures. There are many, many more examples.

The Allure of the Parametric Model

What explains the vogue for parametric insurance as a climate resilience play? Let’s start with some definitions. Put simply, parametric insurance is a financial product that pays out to policyholders if and when a predetermined set of conditions are triggered. In theory, all sorts of parameters can be used as triggering conditions. In reality, they are most often tied to natural disasters and extreme weather events. These can range from a hurricane’s central air pressure to the length and duration of drought conditions. 

These event-based triggers mean parametric insurers get money to those in need of it — fast. Payouts can hit policyholders’ bank accounts in a matter of days, allowing them to quickly bounce back from climate shocks and kick-start the rebuilding process. 

In contrast, traditional indemnity insurance policies can take months, if not years, to payout in full. For example, two years on from Hurricane Ian, an estimated 50,000 homeowners in the affected states are still fighting with their insurance companies to repair or rebuild their properties.

“The rapid access to capital that parametric products provide is really powerful,” says Nakita Devlin, CEO and Founder at Ric. “This is true across the board — all policyholders, from households to small businesses to large global conglomerates — have the ability to recover faster with the influx of capital provided by parametric solutions.”

With climate-related extreme weather events becoming more frequent and intense, it’s no surprise that the parametric insurance model is gaining fans — and there’s many ways it can be implemented.

Some, like Adaptive Insurance, are starting out by focusing on commercial businesses that want protection from power outages, which often result from climate shocks. The company says these disruptions cost US businesses US$150bn a year.

“It's much easier for us to focus on smaller scale, parametric products that actually offer immediate financial resilience,” says Gulla. “Adaptive’s focus is on how we can actually streamline the customer experience, get them access to a smaller amount of capital quickly that we can manage through our technology platform.” He adds that the company plans to add other “resiliency products” later on down the line that protect against rainfall, food, and wildfire.

Other startups are targeting households and individuals. Ric is developing a product that pays out up to US$10,000 in the event of rainfall flooding. This kind of sum is supposed to help cover bills, pay for temporary lodging, or buy a new car following a triggering event.

The Tech Effect

The value proposition of parametric insurance to the climate-vulnerable clearly motivated some entrepreneurs to get into the game. However, advances in tech and data have also unlocked certain capabilities that may have been too difficult or expensive for small companies to tap into before. 

“There’s much more quality data available now than there was maybe 20-40 years ago, and that does allow for novel approaches in the structuring of parametric solutions,” says Martin Hotz, Head Parametric (Natural Catastrophe) at Swiss Re Corporate Solutions.

In particular, geospatial datasets — generated by swarms of satellites in near-earth orbit — are proving to be a game-changer. Iceye, a Finnish company, provides almost real-time information on the progression of natural catastrophes through what it claims to be the world’s largest synthetic aperture radar (SAR) satellite constellation. SAR is a technology for constructing two- or three-dimensional images of landscapes which work day or night, in good weather and bad.

“Over the last five years, give or take, there has certainly been a proliferation of different data sets, some of which, frankly, that have not been available before,” says Alex Korb, Head of the Parametric Insurance Practice at Iceye.

“They are available at a higher resolution and greater granularity. The more granular and the more complete and geographically diverse the data set is, the more parametric transactions it can ostensibly support,” he adds.

And it’s not all satellites, either. Devlin at Ric explains that advancements in the Internet of Things (IoT) and availability of sensors for relaying important weather and hazard data have been instrumental. “Advancements in sensor reliability and engineering have really helped the parametric space blossom,” she says.

And of course, the rapid rise of artificial intelligence has a role to play, too.

“The technology is now at a point that it actually can predict and analyze and do things that it wasn’t able to do five and 10 years ago, which is great for an InsurTech startup like us that can build our platform from day one to optimize for the latest in artificial intelligence and generative AI,” says Adaptive Insurance’s Gulla.

The Insurer Perspective

It also doesn’t hurt that traditional carriers appear to have an appetite for parametric risk. The startups contacted by Climate Proof generally do not hold onto insurance risk themselves, but pass it through to re/insurers directly or via a Managing General Agent (MGA) relationship. MGAs are niche companies that work in between insurers and the insured, and usually focus on discrete pockets of risk. For example, California’s Delos Insurance specializes in homeowner’s coverage in the Golden State, and actively writes policies against wildfire risk.

“It’s not new [parametric insurance], but before, where there wasn’t necessarily a big market, risk capital providers didn’t really need to pay attention as much. But I think now you have alternative risk capital providers and standard carriers who are beginning to be interested enough in parametric insurance that they can actually back these products,” says Christopher Lowell, Managing Director at Innsure, a non-profit focused on supporting innovators at the intersection of insurance and climate change.

This appetite may come as a surprise, given headlines about a “hard” reinsurance market — meaning one where premiums are high and the capacity to take on additional underwriting risk is limited. There’s also been plenty of stories this year about insurers fleeing certain climate risk hotspots in the US, like California, Colorado, and Florida.

Besides the fact that pressures on re/insurers may be easing after a tough 2022/23, the pooling of different types of insurance policies together can actually lower an institution’s overall risk profile through the magic of diversification.

“Through good underwriting results, parametric insurance is an instrument that should allow the industry to keep attracting a sufficient amount of risk capital, which is needed to meet the growing demand for climate risks insurance and improve resilience overall,” Hotz at Swiss Re Corporate Solutions says.

What also helps is that with parametric insurance, re/insurers know ahead of time their maximum liability if a policy triggers, whereas with indemnity insurance “loss creep” — the escalation of reported insured losses over time, often far in excess of initial estimates — is a real and growing issue.

Loss Creep From Italian Severe Convective Storms (July 2023)

This aspect of parametric insurance frees up capital on re/insurers balance sheets faster than in the case of indemnity policies. ”When claims close immediately, reinsurers can then deploy that reinsurance capital elsewhere right away, which is a significant benefit,” says Devlin.

The Basis Risk Challenge

But while there are tailwinds favoring parametric insurance startups, there are also risks inherent to the model that could cause upsets down the line if not appropriately addressed. One big challenge is basis risk — the potential for an event to cause massive damage to policyholders but fail to trigger a parametric policy.

This risk was brought to the fore in the wake of Hurricane Beryl. The island nation of Jamaica had issued catastrophe bonds in the years before the storm in the expectation that they would payout if and when a major weather event hit. However, the parametric trigger underlying the bond did not fire when Beryl rampaged through the Caribbean, because the necessary air pressure level was not observed. Jamaica incurred some US$250mn in damages from Beryl, but got none of the US$150mn or so locked up in its catastrophe bond.

Basis risk can’t be starched out of the parametric model. Managing it is likely to be a priority of the new wave of startups. After all, consumers expect insurance products to pay out when they’ve taken a hit. If they don’t, not only are they unlikely to be repeat customers, their stories of woe can freeze demand among other consumer segments.

“We barely have populations who are comfortable and believe [in] standard insurance,” says Lowell at Innsure. “There’s adversarial relationships between homeowners and claims adjusters and carriers. We barely have that settled. To shift to a model now where, regardless of your loss, someone suddenly tells you that the amount of rainfall at the specific trigger location that your parametric policy was covered for didn't actually exceed the threshold — that's going to be a really frustrating moment,” he adds.

The specter of basis risk puts the onus on startups to educate the market about their products, and ensure potential customers understand what the parametric triggers are and when payouts are made. Forewarned is forearmed.

It also makes it critical that companies have confidence in the data and models used to set parametric triggers and price their policies. High premiums and improbable parameters are a recipe for angry customers. On the flipside, low premiums and all-too-likely parameters are a fast lane to insolvency.

Gulla at Adaptive Insurance feels good about his company’s set up. “Our moat comes from the way that we’ve integrated the data sources that we’re using, the way that we're using our geospatial and weather-related data sources. It allows us to price the products more accurately. It allows us to customize the products more accurately. It allows us to protect our reinsurance partners more accurately,” he says.

Strengthening the Climate-Proofing Ecosystem

Those interviewed are quick to make clear that parametric insurance isn’t a silver bullet to climate risk, or a one-size-fits-all solution. Lowell believes it can be most effective as part of a bundle of different types of policies that together provide comprehensive coverage, a “parametric plus” model, in his words. Here, policyholders might receive some payout if an event’s parameters fall slightly below the trigger level, for example. Such a package could go some way to defusing reputational risks associated with pure parametric coverage. 

He also thinks parametric insurance can help vivify the market for other climate resilience solutions, like weather-proofing and storm hardening, thereby reinforcing the whole ecosystem of climate-proofing goods and services.

“One thing that has got very little conversation so far is a ‘resilience-focused insurer’ — one that actively helps property and asset owners understand the impact of different perils on their risk, on their insurance premiums, and then also tells them: ‘here are the things you can do to reduce your premiums, because you're reducing your risk’,” he says.

The opportunities for further innovation and new collaborations abound. InsurTech startups are offering new ways for policyholders to communicate their climate resilience to carriers and take steps to harden themselves against weather risks, like New York-based Faura and the UK’s Previsico. For those active in the parametric space, it’s an exciting time.

“What these firms bring is needed diversity in views and approaches, and a collective ambition to build out the market overall,” says Hotz. 

“It takes a village,” he adds.

Thanks for reading!

Louie Woodall
Editor