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2020 | OriginalPaper | Chapter

5. Designing Insurance Against Extreme Weather Risk: The Case of HuRLOs

Authors : Martin Boyer, Michèle Breton, Pascal François

Published in: Ecological, Societal, and Technological Risks and the Financial Sector

Publisher: Springer International Publishing

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Abstract

This article studies the market for HuRLOs (Hurricane Risk Landfall Option), launched in 2008 by Weather Risk Solutions. The HuRLO market allows investors to hedge against, or speculate on, the risk that a specific region in the Gulf of Mexico and on the East Coast of the United States will be the first to be hit by a hurricane. We simulate HuRLO market operations under various strategies used by risk-averse players using a formulation that accounts for the pari-mutuel price formation mechanism. We show that the order type, sequence, and order packaging significantly impact on the price paid, and on the number of traded options. We thus highlight that HuRLOs are difficult to evaluate and to purchase optimally, which limits the ability of the HuRLO market to act as an effective insurance mechanism. Potential improvements in the design of HuRLO contracts are suggested.

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According to Pielke et al. (2008) the hurricanes that landed in Miami in 1926 resulted in losses of 760 million dollars. If such a hurricane were to hit the Miami agglomeration today, the financial losses would amount to approximately 150 billion dollars (or 102 billion 2004-dollars according to Kunreuther and Michel-Kerjan 2009). Hurricane Katrina, which hit New Orleans in 2005, caused damages estimated at 108 billion dollars according to the National Oceanic and Atmospheric Administration.

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Title: Designing Insurance Against Extreme Weather Risk: The Case of HuRLOs
Authors: Martin Boyer
Michèle Breton
Pascal François
Publisher: Springer International Publishing
Book: Ecological, Societal, and Technological Risks and the Financial Sector
Print ISBN: 978-3-030-38857-7

Electronic ISBN: 978-3-030-38858-4

Copyright Year: 2020
DOI: https://doi.org/10.1007/978-3-030-38858-4_5