In its report ‘Digital Transformation in the Insurance Sector’, technology analyst firm Transforma Insights identified nine key domains of change that are enabled by emerging disruptive technologies, under the umbrella of ‘digital transformation’. In this article, we focus on one of the pivotal domains, Parametric Insurance, and discuss what it is, how it functions, and its key benefits and associated risks.
What is Parametric Insurance and how does it work?
Parametric Insurance is an emerging type of insurance that offers pre-defined pay-outs based on trigger events, rather than the more traditional approach which is to compensate for actual losses. Since the pay-out of these insurance policies is based on the occurrence of specific events (which can often be directly and accurately monitored using IoT-based solutions), these policies are ideally suited to IoT-enabled monitoring.
To cite an example of parametric insurance, Swiss Re offers drought solutions that compensate farmers if the moisture deficit in the soil reaches a certain level. This approach streamlines and simplifies the procedures involved in managing drought-related claims. It acknowledges the considerable effect that drought has on agricultural output and makes it possible to manage claims for these losses effectively.
While Swiss Re’s drought solution is based on information gathered by satellites, other parametric policies (for instance related to cold chain monitoring, warehouse monitoring, or the pharmaceutical industry) draw data from IoT sensors. For instance, sensors can detect smoke, mould, vermin, toxic fumes, adverse weather conditions or other potential triggers for parametric insurance pay-outs.
How does Parametric Insurance disrupt the insurance market?
Digitally transformed parametric insurance propositions have the potential to increase process efficiency and associated value propositions. Additionally, parametric insurance can significantly disrupt the traditional insurance industry by reaching underserved or unserved markets and by establishing itself in place of traditional insurance propositions.
One way in which parametric insurance potentially changes the market is by more closely associating the insurance policy with the use case and its channel. For instance, a company that specialises in agricultural monitoring could offer (i.e. white label) a parametric insurance policy related to the humidity levels that it monitors. Again, basing an insurance pay-out on parametric criteria significantly simplifies this construct by making the assessed pay-out criteria much more objective and easier to monitor and verify. Such an insurance policy is, of course, a natural extension of the core agricultural monitoring solution.
One more implication of parametric insurance is that insurers don’t have to quantify any expected financial loss, since customers can decide on and purchase the level of coverage they think they need (although customers must understand how the scale of expected losses change according to the various levels of the monitored parameters).
Are there any risks involved with Parametric Insurance?
Establishing a mechanism to parameterise risk and quantify associated losses can be a complex task. However, insurers often possess extensive claims history that can be used in AI models to establish connections between parameters and outcomes. This enables insurers to utilise historical data to develop risk assessment modules and accurately quantify potential losses.
Overall, Parametric Insurance enhances the efficiency and effectiveness of insurance coverage
Parametric Insurance offers a promising solution when looking to insure against specific risks, such as moisture content in the soil, or seismic activities, by compensating the insurance holders based on predefined parameters. By leveraging emerging disruptive technologies such as IoT, AI, Edge Computing, and Distributed Ledger, parametric insurers such as Swiss Re CorSo (Swiss Re Corporate Solutions) are streamlining the claim settlement process and bridging the gap between monitoring centres and insured locations. This approach enhances the effectiveness and efficiency of insurance coverage, contributing to improved risk management across various sectors.
Jim Morrish 
Joydeep Bhattacharyya 