The industries most at risk from extreme weather – and how to protect them
By Derrick Easton
MD, Alternative Risk Transfer Team Leader, Americas Region, Willis Towers Watson.
Extreme weather events strain and test electric grids, gas pipelines and other energy infrastructure and highlight vulnerabilities. They test developed and developing nations alike – especially in places that have not invested enough in upgrading and hardening infrastructure.
Natural disasters worldwide caused $268 billion of economic losses in 2020. Insurance covered only a small fraction of this figure. Insured loss estimates from major natural catastrophes in 2020 were about $78 billion. With economic losses from catastrophes growing faster than insured losses, adapting economies to climate-related impacts has become a major societal priority.
Swiss Re has estimated that the global protection gap in 2020 was $113 billion (lower than the 10-year average of $143 billion), reinforcing the significant level of uninsured losses that occur from catastrophe events.
Industries most at risk
Extreme weather can impact many industries, leading to volatile revenue, higher costs, disappointing earnings or even insolvency and bankruptcy. Industries with high weather-related risks include:
Cold snaps, heat waves, floods, hail and wildfires can all destroy crops. About 75% of global agricultural production is not insured, even though weather risk is associated with almost 60% of yield variability and thus is a crucial factor in influencing food production and farmers’ income.
Construction projects face various weather risks such as hurricanes, thunderstorms, extreme rain, tornadoes, and heat waves or cold snaps. Significant delays may result, leading to severe financial losses even if the project does not itself sustain physical damage.
The tourism industry is particularly sensitive to hurricanes, floods and tornadoes. A storm’s impact can outlast the weather event by months and even years. For example, tourism accounts for 6.5% of Puerto Rico’s economy; the territory saw record crowds of 8.1 million in 2016. Hurricane Maria struck in October 2017, devastating the island. In 2019, the number of tourists visiting the island was still down 36% from 2016 levels. For those with insurance, property policies were slow to respond, with claims often taking years to settle.
With the significant shift of energy production to wind, solar and hydro, weather risks becomes a critical factor. Renewable energy output can be substantially affected by immediate events such as hurricanes, hail, droughts, floods or long-term events such as degradation of wind patterns. There is also the risk of prolonged periods of insufficient wind or solar resources.
A solution for developing economies
Additionally, parametric insurance is well suited for developing economies. As no costly visits are required to assess the losses (we can use countries’ Meteorological Agency data, or satellite data), payouts can be made quickly to hard-to-reach insurers in remote locations. Crucially, protection against unpredictable but potentially devastating risks – previously unthinkable with traditional insurance – is now possible and in more places. In contrast, in developed economies with hard insurance markets, parametric insurance provides an option for some type of coverage for organizations that are priced out of the traditional insurance market.
Parametric insurance is also more appealing to capital providers as it offers greater transparency and contract certainty. Both the insured companies and insurers have access to the same data for underwriting and claims settlement. This eliminates adverse selection, moral hazard issues and disputes due to information asymmetry between insurers and the insured.
Whether it is reducing the protection gap, financing resilient infrastructure or improving risk management and return optimization across the financial sector, insurance technology and innovation has a decisive role to play in responding to climate risk and smoothing the world’s transition.
While protection gaps remain an issue as greater costs are borne by the uninsured, these gaps are closing slowly. Innovative risk-transfer structures and new products based on parametric triggers have a central role to play and will continue to help increase resilience of companies and economies to growing climate risks.
*This article was adapted from the World Economic Forum.