As Hurricane Season Approaches, Chemical Companies Should Consider Parametric Coverage

Multiple phenomena, including the absence of El Niño, will likely lead to an above-average Atlantic hurricane season, according to researchers at Colorado State University. That means it’s time to start planning and preparing — especially if you have properties in hurricane-prone areas, such as the Gulf Coast.

Chemical companies, including oil refineries and energy companies, have many such properties, which can be affected by wind and storm surge. Property damage coupled with business interruption to both their operations and those of their partners could lead to major costs for chemical companies, which have already suffered disruptions stemming from the unprecedented polar storm earlier this year.

Traditional Coverage Not Always Sufficient

The 2021 Atlantic hurricane season is approaching at a time when property insurance costs are going up at a steady clip. Overall, property pricing in the US has increased for 13 consecutive quarters, with the chemical industry seeing price increases, especially for clients with poor loss history.

As chemical companies face increased pricing, lower limits, and higher deductibles, interest is growing in parametric — or index-based — solutions that are linked to a specific trigger. Unlike traditional coverage, parametric solutions do not require physical damage to trigger coverage, and the claims and payment process is typically much quicker.

Let’s take the example of a fuel refinery that is in the path of a Category 4 storm. Winds of more than 140 mph cause significant damage to the refinery. But it falls within the deductible in the company’s property policy. Although damage to ancillary services halt production and lead to spiraling business interruption costs, without a business interruption policy the company is forced to absorb the losses. Even if the company had sufficient business interruption coverage, payment typically takes several months.

The same storm causes heavy damage and disruption to another chemical company that had supplemented its traditional property policy with a bespoke index-based trigger that starts paying out when wind speeds are above 96 mph. The storm qualifies, and the company is able to access funds within a few weeks to rebuild and restart operations.

Even when traditional insurance is available, companies in the path of a storm ­— or another natural disaster, like an earthquake — often undergo a long and difficult process to quantify costs beyond direct property damage. The traditional property and business interruption claim settlement process is also often lengthy, leaving companies with less liquidity in the meantime.

4 Considerations for Parametric Coverage

For most organizations, traditional insurance products will remain the backbone of their risk transfer strategy. However, escalating costs, higher deductibles, and stricter terms and conditions at a time when many companies are still recovering from the blow of the COVID-19 pandemic are often leaving companies the optimal coverage to fit their needs.

With premiums for lower layers of property programs becoming comparable — or higher — than those for parametric coverage, index-based solutions are becoming an attractive alternative.

Considering the threat of increased storms this year, chemical companies should work with their brokers to determine whether parametric solutions are right for them. Parametric policies are customized to a company’s individual needs and exposures, with the only requirement being a link to a predefined index that provides the needed measurement — for example, wind speed at a pre-established location. Index-based solutions will typically pay if the predetermined trigger is breached.

To determine if a parametric solution is a viable option, chemical companies should consider:

  1. Whether cost savings of increasing deductibles for named windstorms within traditional policies can be used to purchase parametric coverage as a supplement to those policies.
  2. If the organization is comfortable with self-insured retentions in their traditional programs and other terms, such as waiting periods.
  3. The importance of a quick settlement and immediate liquidity after an event.
  4. Whether contingent and non-physical damage losses constitute a significant exposure.

Parametric solutions are unlikely to fully replace traditional property coverage when it comes to natural catastrophe exposure for most companies. But when used in conjunction with existing policies, they can provide an additional line of defense for chemical companies, helping them to maintain liquidity and more quickly restore operations after a storm.