1Copyright © 2015 Risk Management Solutions, Inc.
CREATING NEW HYBRID PRODUCTS FOR
ADAPTING THE INSURANCE MECHANISM
TO DRIVE RESILIENCE
Robert Muir-Wood
Aug 31st 2016

2Copyright © 2015 Risk Management Solutions, Inc..
WHAT DOES INSURANCE REFUND?
 Intended for restitution to the state that existed before the claim
 Otherwise considered to lead to moral hazard – when the
policyholder is incentivized to cause a claim to raise the value of the
property
 Where new building code requires better standard of construction
than existed previously – compensation is typically only to the old
standard - unless owner purchases additional coverage or buys to a
higher reconstruction value (costing more)

3Copyright © 2015 Risk Management Solutions, Inc..
LONG TERM INSURANCE
 Howard Kunreuther (Wharton Risk Management and Decision Processes Center)
has been a champion of multi-year insurance contracts
 Benefits for the policyholder :
– ensuring they remain insured,
– financial stability,
 Benefits for the insurer,:
– the ability to sustain a stable portfolio of risks and
– avoiding the costs of promoting and signing up annual renewals.
 For the insurer, losing the optionality of annual renewal will also come with a cost

4Copyright © 2015 Risk Management Solutions, Inc..
THE ADAPTATION BENEFITS OF LONG-TERM INSURANCE
 The cost of any action to reduce risk to the policyholder can be compared with how many years it
would take to repay the investment – and the magnitude of the risk reduction
 The premium would then include two components:
– a) the insurance costs and
– b) the annual cost to repay the investment in risk reduction.
 If the payments from the policyholder remain constant while the risk reduction loan is being paid
off, over how many years would the policyholder have to sustain the policy?
– < 1 year would fit within the terms of an annual contract.
– > 10 years likely to be unacceptable to the purchaser

5Copyright © 2015 Risk Management Solutions, Inc..
Original
Insurance
cost
Number of
repayment years
Insurance
cost after risk
reduction
Annualized
cost of risk
reduction
0 n
‘n’ < 10
€
Cost of risk
reduction

6Copyright © 2015 Risk Management Solutions, Inc..
FLIES
Original
Insurance
cost
Number of
repayment years
Insurance
cost after risk
reduction
Annualized
cost of risk
reduction
0 5
€
Cost of risk
reduction

7Copyright © 2015 Risk Management Solutions, Inc..
NOT GOING TO FLY
Original
Insurance
cost
Number of
repayment years
Insurance
cost after risk
reduction
Annualized
cost of risk
reduction
0 15
€
Cost of risk
reduction

8Copyright © 2015 Risk Management Solutions, Inc..
HYBRID CAT RISK AND INFRASTRUCTURE BONDS
Flood Risk
Premium
Flood defence loan interest & capital repayment
Flood compensation capital
Outstanding loan for defense construction
Principal
$
Premium
$
Risk Capital
repaid if no
flood
Year 1 Year 8
Construction of Defense

9Copyright © 2015 Risk Management Solutions, Inc..
INVESTMENTS IN ADAPTATION
 The example of the city protected by a flood defence can be generalized to any
situation where risk can be profitably alleviated by investment in some protective
action: eg. Retrofitting, rebuilding, new protections
 The duration of the product will be determined by the preparation and ‘pay-off’ times
 Where the risk and infrastructure costs are high enough it makes sense to use a
securitization structure
 Hybrid Risk Reduction & Risk Transfer products have the potential to drive
resilience
 Insurers should offer multiyear coverages so as to drive adaptation