Closing the Insurance Gap – Enhancing Access to the CAT Bond Market

Low- and middle-income countries are often vulnerable to extreme weather events and simultaneously have limited access to insurance markets, leaving damages largely uncovered. To address the issue, the World Bank advocates for a risk-layering approach. Part of this approach is the issuance of catastrophe bonds (CAT bonds), especially for high-risk layers and when capital requirements are substantial. However, access to the CAT bond market remains limited. Market entry of potential issuers, but also investors, is hindered by the extensive, and most often, expensive technical knowledge needed. Additionally, high investor premium demands pose a great challenge for low- and middle-income countries, a situation likely to worsen with climate change intensification.
We propose three interdependent solutions to enhance countries and investors access to the CAT bond market. First, we develop an open-source and -access CAT bond tool and implement it within the CLIMADA environment, an open-source global risk assessment platform. The tool allows for the design and evaluation of either potential or already existing CAT bonds and was tested in a tropical cyclone insurance case study in Samoa. Second, we propose a multi-country CAT bond design, which pools risk across nations. We apply this design to a case study of tropical cyclone risk in Small Island States (SIDS). We find that such pooling allows to decrease both capital requirements and premiums by up to 27% and 17%, respectively, while still offering competitive returns to investors. Third, we introduce a financial scheme addressing premium support, capital supply, and greenhouse gas reduction incentives. We apply the scheme in a case study to the SIDS utilizing the previously developed CAT bond tool and the presented pooling approach. These solutions together aim to expand access to risk transfer for vulnerable countries, offering a more
sustainable and affordable pathway to disaster resilience.