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Extreme Events, Global Warming, and Insurance-Linked Securities: How to Trigger the “Tipping Point”

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  • Erwann Michel-Kerjan

    ()
    ([1] aThe Wharton School, Risk Management and Decision Processes Center, University of Pennsylvania, 3730 Walnut Street, Huntsman Hall, Suite 500, Philadelphia, PA 19104, U.S.A. [2] bLaboratoire d'�conom�trie, Ecole Polytechnique, 1 rue Descartes, Paris 75005, France.)

  • Frederic Morlaye

    ()
    (Capital Markets Group, Guy Carpenter, Tour Ariane, 5 place de la Pyramide, La D�fense 9, Paris La D�fense Cedex 92088, France.)

Abstract

Large-scale disasters have occurred at an accelerated rhythm in the past 5 years. Further, the continuous increase of exposed values in high-risk areas and the potential impact of global warming on the intensity of weather-related events shall accelerate the number and increase the scale of mega-catastrophes in the near future. That is a new era for catastrophe risk management that calls for the development of new solutions, in complement to the traditional insurance and reinsurance. The authors discuss some of the main drivers of the radical shift that happened in the insurance-linked securities (ILS) market after the 2005 hurricane season in the Atlantic basin, which has rapidly become one of the world peak zones in terms of exposure. They explain why, despite this very encouraging evolution, the market has not expanded more (contrary to credit derivatives for instance). They propose three complementary ways to increase interest in these instruments that could effectively trigger the tipping point toward a much more significant volume of capital entering the ILS market: (1) increasing investors' interest through tranching, (2) addressing the basis risk challenge through index-based derivatives, and (3) innovating through the development of new products; the authors introduce the concept of derivative solutions based on equity volatility dispersion. The Geneva Papers (2008) 33, 153–176. doi:10.1057/palgrave.gpp.2510159

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Bibliographic Info

Article provided by Palgrave Macmillan in its journal The Geneva Papers on Risk and Insurance Issues and Practice.

Volume (Year): 33 (2008)
Issue (Month): 1 (January)
Pages: 153-176

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Handle: RePEc:pal:gpprii:v:33:y:2008:i:1:p:153-176

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Web page: http://www.palgrave-journals.com/

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Cited by:
  1. Wenzel, Lars & Wolf, André, 2013. "Protection against major catastrophes: An economic perspective," HWWI Research Papers 137, Hamburg Institute of International Economics (HWWI).
  2. Kousky, Carolyn & Cooke, Roger M., 2009. "The Unholy Trinity: Fat Tails, Tail Dependence, and Micro-Correlations," Discussion Papers dp-09-36-rev.pdf, Resources For the Future.
  3. Dwight Jaffee & Howard Kunreuther & Erwann Michel-Kerjan, 2008. "Long Term Insurance (LTI) for Addressing Catastrophe Risk," NBER Working Papers 14210, National Bureau of Economic Research, Inc.
  4. Whalley, John & Yuan, Yufei, 2009. "Global financial structure and climate change," Journal of Financial Transformation, Capco Institute, vol. 25, pages 161-168.
  5. Kousky, Carolyn, 2010. "Managing the Risk of Natural Catastrophes: The Role and Functioning of State Insurance Programs," Discussion Papers dp-10-30, Resources For the Future.
  6. Kunreuther, Howard & Michel-Kerjan, Erwann, 2012. "Impact of behavioral issues on green growth policies and weather-related disaster reduction in developing countries," Policy Research Working Paper Series 6241, The World Bank.
  7. Howard Kunreuther & Geoffrey Heal, 2012. "Managing Catastrophic Risk," NBER Working Papers 18136, National Bureau of Economic Research, Inc.
  8. W. Botzen & J. Bergh & L. Bouwer, 2010. "Climate change and increased risk for the insurance sector: a global perspective and an assessment for the Netherlands," Natural Hazards, International Society for the Prevention and Mitigation of Natural Hazards, vol. 52(3), pages 577-598, March.

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