Latam Briefing: Parametric insurance in Latin America
Better regulatory clarity and nat cat capacity restrictions are boosting the development of parametric insurance in Latin America, according to experts.
Brokers and insurers report an increase of interest by both public and corporate buyers for this kind of insurance, although hurdles remain to the full deployment of index-based cover across the region.
Countries like Colombia and Chile have taken important steps this year to regulate the offer of parametric insurance, in an effort to assuage fears from underwriters about the validity of their policies in local markets.
In May, the government of Colombia approved a new National Development Plan that, in its article 241, establishes new rules for parametric covers in the country.
Its more important change states that claims can be settled based solely on the meeting of indexes agreed between the parties, which eliminates the need to adjust an actual loss, a requirement that spooked underwriter in the Colombian market.
The 2294 Law also says that, from now on, parametric cover can be offered for any kind of risk. Until this, insurers could only offer such products in agricultural insurance lines.
In Chile, the government approved a fintech law in February that aims to promote innovation in the financial industry and addresses doubts that existed about parametric insurance in the local market.
Again, the main change introduced by the 21521 Law is the concept that claims can be paid even if the protected assets suffer no physical damages, as long as the agreed-upon parameters are met.
It states, however, that the insured assets need to be under actual risk of suffering damages and forbids the use of parametric covers for retirement plans, mandatory insurance and products designed to help the development of a specific economic activity.
The changes have been praised by the market, and other governments have been urged to follow a similar path. That is not always been the case though, and the availability of rules for parametric insurance varies across the region. Markets like Argentina continue to be tricky due to regulatory uncertainty, while Brazil has shown a willingness to support innovation even though regulation does not explicitly address parametrics.
“Colombia has approved new rules, which is very exciting, while Argentina has reassessed its position to fully approve the use of parametric insurance. I believe that regulators are slowly waking up to the value of parametric insurance,” says Julian M. Roberts, the managing director of Alternative Risk Transfer Solutions at WTW.
With friendlier rules in place, market players believe that parametrics can move beyond the realm of crop insurance, which has been the most commonly target of new products, and fill other gaps in Latin American insurance markets.
To some extent, that is already taking place in property segments, especially when it comes to nat cat risks.
Brokers estimate that traditional nat cat-exposed property reinsurance capacity has shrunk by something between 20% and 30% for the region in the past several months, while limits have been flattened and deductibles have gone up significantly.
Consequently, buyers are increasingly looking at parametric products to cover deductible demands by underwriters, in addition to filling excess layers in the largest property programmes.
As a result, the caution showed by the traditional property market has created opportunities for parametric-focussed newcomers such as Paris-based Descartes Underwriting, which one year ago opened an office in Madrid to serve the region.
“Sometimes we replace 100% of traditional capacity, but most of the times we complement it,” says Raúl Revilla, the head of Latin America at Descartes Underwriting.
According to him, Latin American buyers are making ever more purchases and lodging consultations to transfer cyclone and hurricane risks via parametric cover, as capacity for both was reduced after Hurricane Ian in September 2022.
Large companies in hurricane-affected areas have also shown more interest for cover that help them to mitigate the risk of business interruption. Revilla mentions the hospitality sector in the Caribbean and Mexico as one such example.
“Non-damage business interruption is set to see huge growth in Latin America as insurance managers and CFOs become more accustomed to parametrics and curious about their potential,” he says.
Earthquake cover also looks promising to him, following the purchase of parametric insurance protection by the governments of Mexico and Chile, among others. And Revilla also believe that secondary perils such as wildfires and floods could benefit from the technology.
However, other than regulation, the challenge for the development of parametric insurance in the region is a lack of reliable real time and historical data to feed the models developed by underwriters.
At the moment, companies feel more comfortable with risks that can be assessed with data provided by multilateral bodies or agencies from governments in the US or Europe. Earthquakes and hurricanes are the most characteristic examples.
Some insurers negotiate with large clients to install their own sensor technologies in the insured areas, but this is still a work in progress, and it is particularly difficult to implement among small farmers and other potential buyers.
Spreading the penetration of parametric insurance will, however, require finding alternative sources of data, and some options have proved promising so far.
“We have worked on the use of satellite imagery, which is something that makes the reinsurance market more comfortable. For instance, by using NASA data,” says Thamirys Chaves, an agricultural insurance underwriter at Newe Seguros, in São Paulo. “We have structured parametric covers not only for agricultural insurance, but we are looking at natural disasters too.”
Newe has developed a flood cover that it aims to sell to governments at the municipal level in Brazil, where several cities have been affected by severe flooding episodes in recent years.
Satellite data can also prove useful to tackle other secondary perils that has caused many losses to the region’s insurance sector, such as the occurrence of severe draughts and frost.
“It is quite easy to measure temperature, and we know that, if the temperature is too low, some kinds of culture are not going to thrive. The same goes with water levels. Some very innovative products are triggered by the levels of soil moisture,” says Rubem Hofliger, the head of Public Sector Solutions Latin America at Swiss Re.
Another difficulty faced by parametric insurers in the region is the fact that several of the covers that can fill protection gaps depend on government subsidies. Crop insurance is a case in point, and disaster protection at the municipal level also often rely on budget assignments from regional or federal governments. With Latin American governments always short of discretionary money, investment in risk management initiatives tend to be delayed until a catastrophe hits.
“The main hurdle is the lack of awareness of how important it is to be protected against catastrophic risks. And spending priorities often make that hard for insurance to compete with social programmes, development investments and so on,” Hofliger says.
However, with catastrophic losses piling up and millions of people living in exposed areas, parametrics can become a solution for many a cash-strapped government. And private organizations may also accelerate the change from traditional insurance if market conditions remain hard in the long run.
“The transition to parametric insurance is already happening, and it is moving faster,” Revilla says. “But we have to remember that it is a quite disruptive process. Sometimes we need to start with a market leader in a certain area for others to follow.”