Can parametric insurance change the game in climate disasters?

A farmer holds maize harvested from a farm insured by Pula, an agricultural insurance company that helps small-scale farmers to manage the risk associated with extreme climate conditions, in Kitui county, Kenya

A farmer holds maize harvested from a farm insured by Pula, an agricultural insurance company that helps small-scale farmers to manage the risk associated with extreme climate conditions, in Kitui county, Kenya March 17, 2021. Picture taken March 17, 2021. REUTERS/Monicah Mwangi

What’s the context?

Insurance that pays out pre-set sums instead of indemnifying losses is becoming more common as floods and hurricanes intensify

  • Parametric models pay out when pre-set markers are hit
  • Can deliver faster disaster aid than traditional insurance
  • Industry experiments with new models for climate losses

As climate-fueled disasters become more frequent and intense, companies, countries and aid workers are experimenting with new models of insurance and financial help to manage growing risks and losses - among them, parametric insurance.

Parametric policies pay out a pre-agreed amount of money if certain criteria - such as an amount of rainfall or wind speed - are met, the assumption being that damage will have occurred under those conditions.

That can cut out the need for a claims expert visit to assess damage before the insurer pays, as with traditional insurance, and allow for quicker payouts.

Here's how it works - and where it might catch on:

What are the benefits compared to traditional insurance?

In more traditional indemnity insurance models, people affected by disasters put in a claim when they suffer a loss and then wait for it to be assessed and paid - a process that can drag on and slow recovery efforts.

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Because parametric insurance payouts are triggered automatically by pre-set markers, help arrives faster and without the red tape and cost of visits by claims assessors.

"You're not sending out claims adjusters because you're not concerned, for purposes of the payout, with the magnitude of the damage," said Jeff Dunsavage with the Insurance Information Institute, an industry research group.

By avoiding the claims assessment process, parametric insurance might also reduce the number of challenges by clients over payouts.

What are the downsides?

While people with parametric insurance can receive faster payouts, they can miss out on compensation if losses occur when the predetermined criteria are not reached.

A homeowner who took out hurricane parametric insurance triggered at a certain wind speed, for instance, might get no payout if they were hit instead by a less windy storm but one that dumped a lot of rain as it moved slowly by, said Jonathan Charak of Zurich North America.

"That's a horrible situation to be in," he said.

The pre-agreed payment might also not be enough to cover the total losses.

How widely is parametric insurance used?

Parametric insurance has been used around the world for years, from protecting crops in Africa to property in the hurricane-prone Caribbean.

Since 2007, the Caribbean Catastrophe Risk Insurance Facility, now known as CCRIF SPC, has paid out more than $240 million to help countries recover from disasters caused by earthquakes, tropical storms and heavy rainfall.

Parametric insurance is not as common in the United States, though experiments are growing.

The state of Utah, for instance, benefited from a parametric earthquake policy that swiftly paid out after a 5.7-magnitude quake in March 2020.

"It was incredibly prompt. We had a payout within (several) weeks," said Darin Dennis with the Utah Division of Risk Management.

Are parametric models more sustainable as insurance claims rise?

Parametric insurance may not be suited to replacing traditional indemnity insurance, but it can act as a valuable supplement in certain cases or provide at least some compensation in poorer places with little insurance coverage, experts say.

Backers would also like to see more regional and global parametric risk pools created, to help spread the rising costs of insurance and keep coverage affordable.

"There isn't yet this global fund whereby (if) an event occurs anywhere in the world, money gets (paid). I'd like to see that happen," said Toby Behrmann of Global Parametrics, a London-based group that works on parametric models.

(Reporting by David Sherfinski; Editing by Helen Popper)

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A woman checks on flood damage in Conway, South Carolina, USA almost two weeks after Hurricane Florence hit, on Sept. 26, 2018. Thomson Reuters Foundation/Julie Dermansky

Part of:

End of insurance?

As climate change fuels growing losses from disasters in the U.S., access to insurance protection is becoming more difficult

Updated: May 31, 2023


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