The Coronavirus, or COVID-19, has now spread to sixty countries, with a contagious period now thought to range from one to twenty-nine days, with symptoms developing two to fourteen days after exposure. There have been quarantines and closings and runs on supplies, disrupting the supply chain and affecting a wide variety of products. What is the actual impact though on insurance companies? Are large numbers of claims expected; what is apt to happen?
A few weeks ago, ISO developed business interruption endorsements providing limited coverage should authorities require businesses to close due to the pandemic; that article can be found here: ISO Provides Business Interruption Endorsement in Response to Coronavirus
Most insurance policies have exclusions for the spread of diseases as the coverage is for property damage or injury, not illness. Therefore property and casualty carriers do not expect to see many claims that would trigger coverage. However, where carriers could be impacted is in their investments. Carriers invest in the stock market and it is not unusual, especially in years where there have been large or catastrophic losses, for carriers to not make a profit on underwriting premiums but make a profit on investments. With the stock market reacting significantly, this can have a significant impact on carriers’ surplus and available cash to take on more risk. This is where carriers are apt to feel the impact of the virus, not in claims.
Another issue is the Pandemic Catastrophe Bond, which was created by the World Bank to provide financial support to the Pandemic Emergency Financing Facility (PEF), which was created to channel surge funding to developing countries facing the risk of a pandemic.
The bond provides close to $500 million to cover developing countries against the risks of pandemics for five years from inception, which was 2017. This would put the costs of the pandemic to low risk countries on the bond investors instead of their government funds. It includes a combination of bonds, derivatives, a cash window and future commitments from donor countries for additional coverage. It is designed to attract a wider and more diverse set of investors to provide funding. There is an insurance window and a cash window; the insurance window with premiums funded by Japan and Germany consisting of bonds and swaps. A swap is a derivative contract where two parties exchange the cash flows or liabilities from two different financial instruments; the swap occurs at a predetermined time as indicated in the contract. The insurance window is triggered according to outbreak size, growth rate and spread across borders. Premiums are paid in order to buy coverage against a worst-case cross-border pandemic.
The second window is a cash window, which Germany provided 50 million Euros for and is available for the containment of diseases that may not be eligible for funding under the insurance window. This provides two different ways for funds to be provided. The insurance window was developed by the World Bank Treasury in conjunction with various reinsurers and risk modelers. The bonds were issued under IBRD’s “capital at risk” program because investors stand to lose their investment if an epidemic triggers pay-outs. Six viruses, including coronaviruses, were identified as covered viruses, and these six viruses are the viruses most likely to cause a pandemic. Financing is available to eligible countries when an outbreak reaches predetermined levels of infection, number of deaths, speed of the spread of the disease, and has the disease crossed international boundaries.
Investors lose money when the pandemic bond is triggered, because then the bonds are not repaid in full and the funds go to help developing countries fight the spread of the disease. The safer tranche of the bonds will not be paid back if there are more than 2,500 deaths in developing countries. However, the riskier of the bonds, which sold $95 million, is triggered if the disease crosses an international border and there are at least twenty deaths in the second country, then investors’ funds will be paid to developing countries to deal with the virus. Other conditions are that there are 250 deaths in the country of origin, which has already happened in China, and that twelve weeks have passed since the initial outbreak, which is March 23.
Aside from business income, a large issue is how the pandemic affects the larger economy as a whole. With businesses and schools closing, many employees may not get paid. The ISO forms are new so there is generally no insurance in place to provide companies with funds to pay workers told to stay at home, and only the most senior workers will have more than a few weeks of vacation time. When employees don’t get paid they don’t purchase nonessentials, especially when buying even essentials is a hardship. Sales drop and the economy slows down. Events are being cancelled in an abundance of caution, and people are avoiding public places such as theaters and restaurants, and are canceling travel plans. Interest rates have been cut in order to slow a downturn in the stock market, but as the virus spreads, a continued downturn is likely. Current predictions are that passenger airlines will lose up to $113 billion in revenue this year, and that could change. Airlines in the Middle East have already lost $100 million due to canceled flights to countries that have had an outbreak of the virus. Conferences are being cancelled, negatively impacting hotels and restaurants. Employees without sick leave will still go to work sick because they have to, only spreading the infection and escalating the situation. Small businesses particularly suffer and customers stay home and are not purchasing from small shops.
The supply chain is also disrupted with factories closed, which affects down chain companies as well as components for goods. Goods themselves are either in short supply or become unavailable. The interconnectedness of countries allows the virus to impact countries with lower rates of infection because of supply chain issues.