You must be familiar with the word “Catastrophe Bonds.” Catastrophe Bonds are nothing but are a type of insurance linked security that are used to manage risks arising out of several catastrophic events such as earthquakes, hurricanes etc. Companies issuing them insure themselves against the loss arising out of such disasters and the investors buying them are lured by the huge profits that these bonds would yield, in case of non occurrence of certain catastrophic events. catastrophic bonds are not new and have been used over years to protect themselves from the financial loss arising out of major natural disasters like hurricanes, floods, earthquakes etc.
However, the volcano catastrophe bond is new of its type. Launched by the Denmark branch of the Red Cross on 22nd of March, 2021, the Red Cross volcano bond has taken the world by storm and have grabbed attention worldwide. The Red Cross Volcano Bond is the world’s first ever catastrophe bonds that aims to cover the financial loss arising out of volcano related disasters with the support of several financial firms. The Red Cross Volcano Cat’ Bond not only has the potential of revolutionizing the disaster relief finance, but also provides a strong base from where new products and new markets can be developed.
Key highlights of the blog are :-
- What are volcano bonds?
- Background Of The Red Cross Volcano Bonds : How Did It All Start?
- The Story Of 22nd March 2021 : The Red Cross Volcano Bonds
- The Investors Of The Red Cross Volcano Bond
- List Of 10 Identified Volcanoes Covered Under The Volcano Catastrophe Bond
- The Working Of Red Cross Volcano Cat’ Bond : The Raising and Releasing Of Funds
- Concerns And Criticisms
- The Bottom Line
What are volcano bonds?
Volcano bonds are much like any other catastrophe bond. However, unlike other catastrophe bond, the Volcano Bonds provide financial aid to the issuing firm in case of a loss caused by volcanic eruption. Thus, in simple words, volcano bonds are also known as volcano catastrophe bonds as they are one of the type of catastrophe bond that covers the loss of the insured in case of a volcanic eruption. These volcano bonds consider the humanitarian threat that the volcanoes represent and thus aim to cover the financial loss of the firm in case of a volcanic eruption.
Unlike conventional bonds, these bonds demand a special understanding from the investors as on one hand, while it offers a high yield to the investors , the investors also at the same time posses the risk of losing some or whole of their investment in case of a disaster caused due to volcanic eruption.
Background Of The Red Cross Volcano Bonds : How Did It All Start ?
It all started around a table in Zurich, when the Denmark branch of Red Cross realized that the existing basket of catastrophe bonds do not include volcanic eruptions as one of the perils. Despite the humanitarian threat that these volcanoes possess, volcanic eruptions failed to make its way onto the pool of existing catastrophe bonds. This realization drove the Red Cross and they started working on the project. The project has been in making since November,2018 and within three years, the Red Cross has finally come up with volcano bonds that provides financial aid and covers the loss of the insured firm in case of an eruption of ten identified volcanoes.
The Story Of 22nd March 2021 : The Red Cross Volcano Bonds
It was a normal Monday, until the Denmark branch of the Red Cross, announced the launching of the volcano bonds to provide financial aid and cover loss of the insured firm arising out of the ten identified volcanoes in case of a volcanic eruption. With it’s launching, the Red Cross Volcano Bonds became the first ever bond in the world which covers the loss arising out of volcano related disasters and thus grabbed attention worldwide. Prior to this, the loss arising out of volcanic eruptions was not covered under catastrophe bonds.
The Red Cross Volcano Cat’ Bond is designed to improve the provision and efficiency of humanitarian relief and aims to raise up to $3 million from investors for aid in the aftermath of an eruption from the ten identified volcanoes which are spread across three continents. Sponsored by Danish Red Cross and supported by Howden Group Holdings insurance group, the volcano catastrophe bond is a new type of security in the insurance-linked securities (ILS) market and is an impressive example of the use of insurance-linked securities (ILS) in the humanitarian field.
The Investors Of The Red Cross Volcano Bonds
Owing to the huge risk associated with it, the catastrophe bonds demands deep understanding from the investors before investing and thus finding investors who are willing to take the risk is a task easier said than done. However, the red cross volcano bonds did not face an issue in this regard. The three insurance linked securities (ILS) specialists, Plenum Investments, Schroder Investment Management and Solidum Partners are the initial investors in the world’s first ever volcano bond.
List Of 10 Identified Volcanoes Covered Under The Volcano Catastrophe Bond
The Red Cross Volcano Cat’ Bond, certainly takes into account the humanitarian threat that the volcanoes represent. However, for the purpose of identifying the volcanoes to be covered under the world’s first ever volcano bond, an eligibility criteria was set and only those volcanoes with at least 7lakhs people living within 100 km radius of potential eruption were covered.
Spread across three continents, the following ten volcanoes are covered under the Red Cross Volcano Cat’ Bond which fulfill the above mentioned eligibility criteria :-
|Serial Number||Country||Volcano Name/Names|
|2.||Columbia||Nevado del Ruiz|
|3.||Ecuador||Cotopaxi, Tungurahua and Pichincha|
|4.||Indonesia||Merapi and Raung|
The Working Of Red Cross Volcano Cat’ Bond : The Raising and Releasing Of Funds
Ever since the launch of the Red Cross Volcano Bond on 22nd of March, ,2021; people have been growing increasingly inquisitive to know and understand the working of the world’s first ever volcano bond which makes it one of its kind and makes it different from others.
The world’s first ever volcano bond is based upon two pillars which play a crucial role in raising and releasing funds.
Raising Of Funds
Developed by Replexus, the block chain technology helps the bond to raise funds in advance and that too from the global market. Opting to private block chain technology developed by Replexus, not only helps in raising funds in advance but also helps in reducing the costs by $2,00,000 -$4,00,000 per issue in comparison to traditional settlement systems.
Releasing Of Funds
For the releasing of funds, the volcano catastrophe bond relies on the advanced modelling which is developed by Mitiga Solutions. The trigger mechanism developed by Mitiga Solutions sets in motion a particular pay out whenever a volcanic eruption plum reaches a certain height and the prevailing wind directs the ash fall towards vulnerable communities. The quantitative model automatically predicts the quantum of funds needed on the basis of height of an ash cloud following a volcanic eruption and prevailing winds. Opting to this, allows quick and effective release of aid and thus improves both effectiveness and efficiency of human relief.
Concerns And Criticisms
Undoubtedly, the Red Cross Volcano Cat’ Bond is an important addition to the ILS market. On one hand, while it offers high yields to risk bearing investors, on the other hand, it covers the loss of the insured firm and provides quick and effective aid in the aftermath of a volcanic eruption from the ten identified volcanoes and thus has a huge potential to revolutionize disaster relief finance.
Owing to all this, the world’s first ever volcano bond has been busy receiving praises from all over the world since 22nd of March, 2021. However, despite this, fearing instances of the past, some intellectuals have started raising concerns and the criticisms have been put forth.
Referring to the incidences of Ebola outbreak in 2019 and in the early months of Covid-19 in 2020 where specialized Pandemic Bonds failed to pay out, the intellectuals keep on arguing over the credibility of such bonds as Specialized Pandemic Bonds were also launched by World Bank on June 18,2017 and aimed to provide financial support to the Pandemic Emergency Financing Facility (PEF). Thus, drawing references from the past, they wonder over the credibility of Red Cross Volcano Bond while it looks good on paper.
The Bottom Line
Wrapping it up, all I would say is, the world’s first ever volcano catastrophe bond is one of its kind. Not only it covers the economic loss and provides financial aid to lakhs of people living near active volcanoes, it also bridges the insurance gap and thus allows more people to access the insurance and capital market, the benefits of which would help the welfare sector in serving those affected by natural disasters.