Volcanic ash may have caused havoc among holidaymakers, businesses and airlines, but reinsurers know this is one natural disaster they needn’t worry about
The earthquake in Chile, the Australian hailstorms and now the Gulf of Mexico oil slick are causing distinct unease in the reinsurance market. After a couple of benign years, catastrophe losses for the first quarter of this year came in at around $17bn – more than double the figure for the same period last year.
But one event that will not be giving reinsurers any sleepless nights is Volcano Eyjafjallajökull. The unpronounceable Icelandic volcano may still be spewing ash into the atmosphere and restricting air travel after last month’s almost week-long stoppage. But despite costing the airline industry more than $1bn so far, it is one natural disaster that reinsurers won’t be paying for.
Indeed, even primary insurers look set to escape relatively unscathed from the event. Volcanic eruptions are generally uninsured events and the relatively short period that air travel was disrupted means there is little scope for potential commercial insurance claims. Moreover, business interruption claims related to flight cancellations are unlikely, as business interruption is not generally covered by aviation insurance. And while the potential for travel insurance claims exists, it will be largely mitigated by the fact that airlines have already agreed to pick up most of the additional costs that passengers have incurred.
“It’ll have very little impact on the insurance industry and consequently virtually nothing on the reinsurance industry,” says James Vickers, chairman of Willis Re’s international and specialty unit. “The actual aeroplane hulls haven’t been damaged and to generate a claim on a hull policy [the most common form of aeroplane insurance], you need some physical damage and there hasn’t been any.”
A spokesman for reinsurance giant Hannover Re says: “So far the insurance industry seems to have come out of this event with only marginal bruises. Hannover Re does not expect impact from the event.”
That view is echoed by Guy Carpenter’s global head of business intelligence, Christopher Klein, although he believes primary insurers could still face claims from out-of-pocket travellers, depending on the type of cover they have provided.
“At the retail level, there may be some ambiguities about cover, but then it’s down to the insurance companies and how they want to look in public,” he says. “Business interruption is often written in as part of a property contract on reinsurance and that basically requires a physical loss to have occurred: the building burning down or being burgled or something like that. So we don’t expect insurers to have business interruption claims because there’s been no physical loss from the volcano. As far as reinsurance goes, we don’t see this as a significant event.”
Force majeure clauses
But what if a company seeks to make a claim based on the fact that the operation of its business was interrupted because of the cancellation of flights? Mining giant Rio Tinto, which has a dual listing on the Australian and London stock exchanges, was forced to cancel its annual general meeting in Melbourne after the volcano left its board of directors stuck in the UK following its London AGM.
“There could of course be cases of people not being able to get to where they need to be,” Vickers says. “But most reasonably drafted contracts would have a force majeure clause, which means it would be difficult to enforce if the contract was not fulfilled solely because the planes weren’t flying because of the ash issue.”
In addition to force majeure clauses, it’s also worth pointing out that all business interruption policies have a deductible – in this instance a waiting period of at least several days – before they would attach to reinsurance. Although the September 11 attack on New York was not considered what is popularly called an ‘Act of God’ – which the volcano-prompted aviation shutdown effectively is – people and businesses still weren’t able to claim after flights were grounded in the days after the attack.
Klein adds: “You have to remember that last month’s flights were stopped and cancelled because of the action taken by the relevant authorities. It was essentially government, or government proxies, who decided that planes were not going to fly. So, as far as business interruption is concerned, there really isn’t anything to follow.”
Supply chain interruption
In these days of lean manufacturing and just-in-time delivery, the airspace shutdown had a particularly damaging impact on air freight deliveries. Carmakers Nissan and BMW were just two of the high-profile manufacturers forced to suspend production because their supply chains were disrupted by the decision to close the airports.
But even when it comes to cargo insurance claims, reinsurers look pretty bulletproof and, as with all policies, most cargo contracts will include a deductible before cover kicks in of at least 10 days.
Hannover Re’s spokesman says that while it is not “uncommon for cargo policies to include coverage for trade disruptions”, this was usually related to events such as “blocking and trapping at ports”. As such, the disruption from the volcanic ash was unlikely to be covered by cargo insurance.
A spokesman for Munich Re added: “Supply chain interruption is not normally covered at the present time. Munich Re is not expecting any claims due to supply chain interruptions caused by volcanic ash.”
“A lot depends on what the policy is and how it’s written,” Klein says. “It’s different to a business interruption caused by your factory having burnt down. Does the government closing airspace constitute the causes of an insured loss on your policy? There could be some losses in perishables, but we’re not talking about anything that is going to be catastrophic in reinsurance terms.”
With no one in the insurance industry expecting a bill in the wake of all this, you could be forgiven for forgetting that, over an unprecedented five-day period last month, around 80% of Europe’s flights were cancelled. The stoppage caused airlines to suffer lost revenues and additional costs totalling between $200m and $300m a day.
Air passenger pay-outs
The additional costs are those imposed on airlines and tour operators by EU regulations that force companies to compensate air passengers for delays and cancellations. Although the regulation states that airlines are not liable to pay compensation in “extraordinary circumstances”, Europe’s airlines are – albeit reluctantly in some cases – picking up the bill for hotel accommodation and other expenses incurred by passengers because of the cancellation of flights.
But despite this, some insurers will still face claims on travel insurance policies, particularly from those who paid a small fortune to travel home across land and sea after their flights were cancelled.
The situation is unclear but a small number of insurers have said they will cover some claims, largely because they fear the adverse publicity and the prospect of a raft of legal actions in the small claims courts if they refuse these.
But even then, the size of the pay-outs, which are estimated by the Association of British Insurers to be around £62m ($90.3m) in the UK, mean there is little likelihood that they will attach to reinsurance programmes.
“Hotel expenses and things like that aren’t that large in the grand scheme of things,” Klein says. “The big exposure on a travel insurance policy is death, injury, medical expenses and the public liability component. There are generally caps on what you can claim for being delayed, so we’re not talking about the catastrophic perils of a travel insurance policy.”
Moreover, Vickers says, the kind of personal accident policy that would generally cover travel cancellation is normally retained net and kept within the insurer’s own account.
“These losses are also triggered over many days and each individual claim is not going to be very big,” he adds. “Quite a lot of contracts would have some event definition clause, so even if you could prove it was the same proximate cause, you would need to accumulate all your losses within a certain period of time.
“So I think it’s unlikely that anyone will have enough of a claim, and construct it in such a way, to put it under their reinsurance contract.”
Policy changes unlikely
With so many businesses affected by the fall out from the volcano, the possibility exists that, come renewal time, many customers will be looking to ensure that they are covered for this kind of eventuality in future. So are policy wordings likely to change? The short answer is probably not.
“Maybe there will be more demand for expanded business cancellation policies,” Munich Re’s spokesman says. “We know that this is a major and potentially critical issue facing companies, as shown by the current volcanic ash situation. However, the risks involved are not easy to understand.”
Klein puts it succinctly. “If a buyer of insurance wants to include additional contingencies and perils, then they’re free to go to an underwriter and say: ‘Would you be prepared to cover this risk?’. And the underwriter will assess the risk and either decline or place a price on it.”
In the current economic environment, the odds are that the buyer will probably balk at the price to cover the risk.
But while reinsurers don’t believe the event will have much of an impact on the sector, most agree we are unlikely to have heard the last word on claims arising from the volcanic ash.
Airlines and tour operators in the UK will be looking to the incoming government to cover at least part of the losses they suffered. And across Europe, airlines are understood to be considering legal action against the aviation regulators on the basis that the length of the shutdown was unnecessary.
But for now, reinsurers have bigger and more costly natural disasters to worry about. GR