The El Niño Southern Oscillation (ENSO) is a climate event, where the adverse warming of sea surface temperatures in the Pacific Ocean leads to extreme weather conditions affecting weather systems and countries globally.

1. July | August 2014
El Niño - plan ahead and manage the risk
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3. T
he El Niño Southern Oscillation
(ENSO) is a climate event, where
the adverse warming of sea surface
temperatures in the Pacific Ocean
leads to extreme weather conditions affect-
ing weather systems and countries globally.
Climatic impact varies from extreme rain-
fall and flooding in some areas, to extreme
droughts and high temperature in others.
From a food and feed perspective these
changes can have devastating effects on
industry, with farmers, fishermen and local
industry and finance having to contend with
extreme weather events leading to crop
failure, rapid soil erosion, damage to industry
and suboptimal conditions leading to out-
breaks of disease.
In the last severe El Niño in 1998, rainfall in
Peru reached 40 times the average.
El Niño events occur roughly once every
five to seven years and although they are
relatively short in duration they can have far
reaching and long lasting impacts on industries
involved in animal and crop production. The
chances of an El Niño event occurring this
summer (2014) are currently estimated at 70
percent.
What affect does this have on industry?
Fisheries
A clear impact of El Niño events can be
seen in Peru and the impact on the Peruvian
anchovy fisheries sector, producing the bulk of
the world’s fishmeal.
El Niño reduces anchovy spawning and
leads to a change in migration patterns, typi-
cally causing huge disruption in the fisheries
sector. In each year where El Niño occurred
(1972, 1982 and 1997) huge reductions in
anchovy catches resulted, and near collapse
of the industry was experienced.
As well as water temperatures affecting
the migration and spawning of the Peruvian
anchovy population, many Peruvian fisher-
men are at the mercy of the weather. These
conditions often cause huge disruption to the
fishing effort, increasing the costs of fishing and
the ultimately the ability of the fishermen to
repay loans.
With the increased costs of catching, cou-
pled with reduced catches, the result is huge
increases in fishmeal prices.
Terrestrial farmers
With the development of more and more
plant based feeds for aquaculture, the effects
of El Niño put pressure on some of the key
grain and soy producing regions of the world.
With ever increasing competition for land
to supply feed for humans, biofuels and fod-
der crops any disruption to supply can have
marked effects on raw material pricing.
The 1997-98 El Niño severely affected the
Southeast Asia and Oceania regions, leading
to wide scale crops failures and huge increases
in food prices which, in turn, resulted in sus-
tained hardship for many across the region.
Grain production in eastern Australia and
the Philippines reduced dramatically, and the
same is anticipated during the next El Niño
event.
Feed manufacturers
Modern aquaculture feeds are increasingly
dependent on ingredients coming from a
number of suppliers, usually globally sourced,
and typically using both terrestrial (grains or
soybean) and marine (fishmeal) suppliers.
Consequently, aquaculture feed producers
are affected by most of the major effects of
El Niño events. Increased raw material prices
might be offset by passing these costs on to
feed buyers, but by how much and for how
long?
Fish farmers
Fish farmers, as the end user in terms of
aquaculture feeds, bear the brunt of increase
in raw material price rises. Unless they have
managed to secure long term contracts with
feed suppliers, or avoided fixed price sup-
ply deals with fish markets, they are heavily
exposed to feed price fluctuations.
Feed prices make up a significant portion
of the costs of fish production, and will erode
profit margins unless prices are passed on to
the consumer.
This can sometimes be difficult to do when
competing against wild fish supplies or substi-
tute proteins. If alternative feeds are available,
then these might be a short term option,
however, this tactic may result in sub-optimal
nutrition leading to reduced growth rates and
ultimately an inferior product.
What measures can be taken to mitigate
against the effects of El Niño?
Identify risks
In all cases, irrespective of position within the
supply chain, companies should take a pro-
active approach to risk management. Risks
should be identified, assessed and monitored.
Once the impact of these risks is analysed,
strategies for reducing or managing these risks
can be developed. Management steps can
be as simple as substituting feed, to hedging
the effects of El Niño events by purchasing
specialist insurance.
What is crucial in all cases is to plan ahead.
Many of the effects of El Niño will be felt
throughout the market and will be affect-
ing many stakeholders at the same time, so
impacts will be significant throughout supply
chains.
Unless companies plan ahead they will
have no option but to react as events unfold,
plan ahead and manage the risk
by Daniel Fairweather, Willis – Email: dan.fairweather@willis.com
WILLIS’ DIVISION HUGHES-GIBB IS THE CENTRE
OF EXCELLENCE FOR BLOODSTOCK, LIVESTOCK,
AQUACULTURE, CROP AND FORESTRY INSURANCE.
THE DIVISION WAS FOUNDED IN 1959 AS THE FIRST
BROKER IN LONDON EXCLUSIVELY DEDICATED
TO BLOODSTOCK RISKS. IN RECENT YEARS
IT HAS EXPANDED TO OFFER A FULL SERVICE
ACROSS OTHER SECTORS, INCLUDING LIVESTOCK,
AQUACULTURE, CROP AND FORESTRY INSURANCE.
“WE ARE THE ONLY TRULY GLOBAL INSURANCE
BROKING DIVISION TO ENCOMPASS ALL OF THE
ABOVE AREAS OF SPECIALISATION.
“THROUGH WILLIS OFFICES AROUND THE WORLD,
WE CAN PROVIDE QUOTES AND COVERAGE FOR
THE WHOLE SPECTRUM OF INSURANCE PRODUCTS
IN THE BLOODSTOCK, LIVESTOCK,AQUACULTURE,
CROP AND FORESTRY SECTORS NO MATTER WHERE
OR THE RISK IS LOCATED,” SAYS THE COMPANY.
El Niño
16 | INTERNATIONAL AQUAFEED | July-August 2014
FEATURE

4. in what will be a very dynamic environment.
Decisions will have to be made under stress,
and may result in less than optimal outcomes.
Some risks are completely out of the con-
trol of companies, but many are not, and those
that can be controlled can either be managed
through good business practice, or potentially
transferred to the capital or insurance markets.
Meteorological modelling
Advances in meteorological modelling and
climatic monitoring have enabled the devel-
opment of risk models to predict complex
climatic events with ever greater accuracy.
As these models have evolved, so have
the options for dealing with the extreme
events they signal. By using financial hedging
and insurance products, the effects of climate
shocks can be alleviated (from a financial
perspective).
How can El Niño insurance help?
This product is highly innovative in a number
of ways:
• It provides protection against the fore-
seeable increased cost of dealing with
one of World’s most intractable natural
hazards
• Uniquely, it enables buyers to obtain
protection and receive payouts prior
to the El Niño event occurring. This
allows opportunities for risk manage-
ment and loss prevention ahead of the
event
• The basis of its operation is entirely
formulaic and objective, supported by
a reliable and recognized third party
thereby reducing moral hazard and the
potential for adverse selection
• Claims payments are swift, avoid-
ing lengthy, often contentious loss
adjustment
How does it work?
Sea Surface Temperature (SST) is measured
(daily) at specified ocean locations in the
equatorial Pacific and recorded by the United
States National Oceanic and Atmospheric
Administration (NOAA).
The primary indicator of an impending El
Niño event in Peru, for example, is the SST
as measured in the specified ocean location
referred to as ‘ENSO 1.2’ during November
and December.
This index based insurance solution
responds if the average SST during November
and December as measured at ENSO 1.2
exceeds an agreed temperature threshold.
If the trigger is breached, the agreed payout
will be made.
The insured does not have to prove that
there has been any individual loss or damage;
the breaching of the threshold is sufficient to
trigger the payment.
Benefits of El Niño insurance
There are a number of specific benefits to
particular industries, but broadly speaking the
main advantages for all policyholders are the
following:
• Transparency - What you see, is what
you get – this inspires trust in the buyer
– so long as they understand the basis
risk
• No on-site adjustments - Payments are
only made according to the index, which
avoids costly loss adjustment requiring
considerable expertise.
• Lack of adverse selection / moral
hazard - It doesn’t matter who buys
the protection; the pay-out will be
unaffected. If the business manages their
risk badly they will not get paid more (or
less) than the Index determines
• Addresses correlated risks - Severe
events, such as drought, can be well
addressed by index-based products but
they can be a challenge for conventional
insurance
• Low operational and transaction
costs - As no individual underwriting is
required, the cost of policy distribution,
administration and claims handling can
be minimised
• Rapid payout - No further adjustment is
required once the final level of the Index
has been determined
July-August 2014 | INTERNATIONAL AQUAFEED | 17
FEATURE

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