A new report from Global Parametrics notes that while catastrophe bond structures can be robust and replicable across different trigger points and geographies, several barriers remain to their effective application among humanitarian organizations.
The parametric climate risk insurance provider, part of CelsiusPro Group, has therefore called for a “comprehensive assessment” of risks and organizational objectives to determine whether the adoption of catastrophe bonds is justified in a humanitarian context.
According to Global Parametrics, humanitarian organizations are beginning to adopt climate and disaster-related insurance to build more effective response capabilities into their operations.
“As the frequency and severity of climate-related events continues to increase, there is growing interest in exploring the potential of catastrophe bonds to support emergency support as humanitarian needs exceed available resources,” the company added.
Global Parametrics continues: “There are many forms of risk transfer models in insurance and capital markets.
“In contrast, catastrophe bonds and parametric insurance contracts both base payments on similar objective climate and risk-related triggers, but differ in providing two different sources of private sector capital: capital and insurance markets, respectively.”
Global Parametrics said the catastrophe bond structure appeared robust and replicable across a range of triggers and areas and had been piloted in sovereign settings, but said there were still some barriers to its application among humanitarian organizations.
That said, Global Parametrics believes catastrophe bonds can generally be significantly more expensive than reinsurance/insurance in off-peak areas.
From their perspective, humanitarian support in the event of a disaster needs to be deployed quickly, and any spending on bonds or reinsurance products must be calibrated to this urgency; delays in processing proceeds can significantly reduce their potential value-add.
They also note that while catastrophe bonds, reinsurance and other risk transfer instruments have the potential to provide rapid liquidity, their adoption could introduce new operational and management complexities within humanitarian agencies.
Global Parametrics continues: “Cat bonds may be of limited use to humanitarian organizations, and only after other, cheaper options have been explored.
“While there is some incentive to pre-arrange financing, cat bonds targeting off-peak risks can be costly, require significant constraints, have high recurring costs and could crowd out projects funded by core donors.
“They may only make economic sense to the extent that reinsurance/insurance can effectively cover them. Even then, their value depends on a quick, pre-agreed payout plan.
“Coupled with the additional organizational complexities involved in integrating risk transfer instruments, catastrophe bonds are unlikely to be the first choice for financing challenges in the industry. They may become a costly distraction rather than an effective pre-arranged financial instrument.”
Simant Verma, head of disaster risk finance and insurance at Global Parametrics and author of the report, commented: “Catastrophe bonds are part of a suite of financial instruments, the best combination of which is how many humanitarian organizations fund emergency response and recovery.
“As climate-related disasters increase in frequency and severity, catastrophe bonds may play a role in finding sustainable solutions to humanitarian financing problems. But humanitarian organizations may consider them on all their merits, which should include a range of other options.”
Mark Rueegg, CEO of Celsius Pro, said: “Before deciding to pursue a specific financial instrument, a thorough assessment of risks and organizational objectives should be carried out.
“Such an assessment can ensure targeted participation in capital (and (re)insurance) markets when the timing and rationale are right.”
