In insurance of agricultural risks, the magnitude of risks can be high and and difficult to predict. While road accident statistics are based on very high number of occurrences and are a good indicator of future damage, large natural disasters happen at most several times per decade, which make their statistical analysis unreliable to predict future agricultural losses.
In order to cope with that issue, reliable insurance companies transfer a large part of the agricultural risks to reinsurers.
A reinsurer is a company that takes over a part of the risks underwritten by an insurance company. As the reinsurers reinsure risks all over the globe, they benefit from a diversification effect (a natural disaster is unlikely to impact all locations where the reinsurer is active), making the insurance cover more reliable for the insured. Agricultural risks in Ukraine are often transferred to European reinsurers such as Swiss Re, Polish Re or Hannover Re.
To illustrate the need for reinsurance, let’s take the average reserve level per company of the top 3 insurance companies active in Ukraine in 2017, that is 900 mln UAH.
Let’s assume that one of these insurance companies insured 50,000 hectares of wheat with an insured yield of 6 tons per hectare, an insured price of 5,000 UAH / ton and a 10% deductible at the portfolio level.
Total Sum Insured = 50,000 ha * 6 tons/ha * 5,000 UAH = 1,500,000,000 UAH.
The deductible is 10% of TSI, that is 150,000,000 UAH.
In case of a decrease in yields from 6 to 3 tons/ha (because of drought for instance), the insurance company will have to pay: 3 t/ha * 50,000 ha * 5,000 UAH = 750,000,000 UAH, less the deductible of 150,000,000 UAH, that is 600,000,000 UAH, which corresponds to 2/3 of the overall company reserve.
Having 2/3 of the overall company reserve at stake on one risk is very risky and may lead to bankruptcy. That’s why, in order to reduce their exposure, reliable insurers transfer at least 70 % of the agricultural risks to one or several international reinsurers.