What Is Weather Insurance?
Let me explain what weather insurance really is—it's a type of financial protection that covers losses or damages from adverse, measurable weather conditions. We're talking about things like wind, snow, rain or thunderstorms, fog, and temperatures that are just not right for what you need.
As a separate policy, weather insurance is something businesses often use to safeguard their operations and activities. For instance, if you're running an expensive event that could get wrecked by bad weather, this insurance has your back. Insurers will cover you if those weather conditions lead to lost revenue from your event.
Key Takeaways
You should know that weather insurance gives you financial protection against losses from adverse, measurable weather. The premiums depend on how likely the insured weather event is to happen and how much loss it could cause. Typically, conventional weather insurance handles low-probability events like hurricanes, earthquakes, and tornados. For high-probability weather issues, you might look into weather derivatives, which are financial tools to hedge against those risks.
How Weather Insurance Works
Weather affects everything in our daily lives and can seriously impact business revenues and earnings. That's why I see weather insurance, as a standalone policy, being used to protect businesses and their activities—think insuring a big event that bad weather could ruin. It covers things like festivals, concerts, trade shows, seasonal events, parades, film shoots, fundraisers, and sporting events. Even individuals use it for major celebrations, such as an outdoor wedding.
Conventional weather insurance usually includes coverage for low-probability events like hurricanes, earthquakes, and tornados. If those conditions cause revenue loss or outright cancellation, insurers reimburse you.
The premium you pay is based on factors like location and time of year. Essentially, it's determined by the chance of the weather event happening and the potential loss amount. An actuary at the insurance company reviews decades of weather data to set the price. For example, if Cleveland gets a white Christmas every 10 years, that's a 10% probability, and premiums are set accordingly.
Purpose of Weather Insurance
For many companies, weather insurance is a necessity and a core part of risk management. It's highly customizable—you can pick the number of days, specific weather events, and their severity to cover.
Businesses sometimes use these policies as a sales tactic to attract customers. Take a furniture store that promises free purchases in December if it snows more than two inches on Christmas—they'd buy a policy to cover that exact scenario.
Keep in mind, some protection against weather losses is already in other policies like homeowners, property, or special event insurance, but weather insurance goes further for specific needs.
Example of Weather Insurance
Suppose you're an event planner organizing an outdoor festival for a summer weekend. You sell tickets, but you also count on revenue from food, drinks, and vendor sales. The date is set, but weather is unpredictable.
To avoid issues, you take out a weather insurance policy. If rain causes a low turnout, you can file a claim to recover lost revenue, as long as your premiums are current.
Weather Insurance vs. Weather Derivatives
Until recently, insurance was the main way companies protected against unexpected weather. But conventional insurance only covers catastrophic damage and doesn't help with reduced demand from weather that's just warmer or colder than expected.
About 20% of the U.S. economy is directly affected by weather, which is why weather derivatives came into play. These aren't insurance—they're financial instruments for hedging against weather-related losses. The seller takes on the risk for a premium, profiting if nothing happens, or paying out if adverse weather occurs.
Weather derivatives typically cover low-risk, high-probability events, while weather insurance handles high-risk, low-probability ones in a customized policy. A company might want both to cover different scenarios.
Weather Derivatives Background
In the late 1990s, people figured out how to quantify weather by indexing monthly or seasonal average temperatures and assigning dollar values. This allowed them to package and trade weather like a commodity. The first such transaction was a power contract by Aquila Energy in 1997.
From there, weather became tradable, just like stock indices, currencies, interest rates, or agricultural commodities.
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