Uninsurable perils are events for which insurance coverage is not available or for which insurers are unlikely to underwrite policies.
An uninsurable peril is typically an event that has a high risk of occurrence, meaning the probability of a payout is high and expected. Perils that insurers are unwilling to cover are often catastrophic in nature.
Key Takeaways
- Uninsurable perils are events for which insurance coverage is not available or for which insurers are unlikely to underwrite policies.
- An uninsurable peril is typically an event with a high risk of occurrence.
- Perils that insurers are unwilling to cover are often catastrophic in nature, for which the probability of a payout is high and expected.
- The major areas for which insurance is unobtainable include reputational risk, regulatory risk, trade secret risk, political risk, and pandemic risk.
Comprehending Uninsurable Perils
Uninsurable peril risk is relatively widespread across the human experience. For instance, consider an individual who builds a home in a known flood area.
Given the area’s history of floods, it is unlikely an insurance company will want to extend flood coverage due to the difficulty in managing the potential risk. That sort of difficulty managing risk is the primary reason why flood insurance exists as a government program managed by the Federal Emergency Management Agency (FEMA) instead of as a subset of private insurance.
Types of Uninsurable Perils
While not exhaustive, the major areas where insurance is unobtainable include reputational risk, regulatory risk, trade secret risk, political risk, and pandemic risk.
Reputational Risk
Reputational risk occurs when a company does something, or something happens to a company, that damages its public image to the point where its business is imperiled. For example, a CEO involved in a scandal or a person tampering with products can cause severe reputational damage.
There may be some coverage (for product recall expenses, for example). But generally, these situations cannot be insured because an insurer cannot determine what the risk is or what it’s worth.
Regulatory Risk
Regulatory risk is the possibility a government agency will do something, or a government will pass a law, that severely damages a business. For example, forcing coal-powered electric generators to close.
Thousands of new rules and laws are posted at the state, local, and federal levels every year. It’s impossible for an insurer to anticipate these or write a policy to mitigate the damage to a company stemming from them.
Trade Secrets
Trade secrets are essential to many companies, yet if they are exposed or stolen the damage is hard to calculate. A hacker can steal key computer code or a disgruntled employee can walk off with secret formulas or processes.
Predicting how likely this is to happen or the amount of damage is beyond the ability and scope of most insurers.
Political Risk
Political risks such as government expropriation of an asset, war or political violence, credit default of trade receivables, or when foreign governments block transfer of currency and assets, are difficult to insure against because they are so unpredictable.
Pandemic Risk
Extreme levels of unpredictability are also present with pandemics. The effects of mass illnesses can vary widely. A pandemic like the H1N1 flu may disrupt some businesses, but COVID-19 profoundly disrupted the world economy. Due to the unpredictability, scale, and cost involved in pandemic situations, private insurance can’t help most people or businesses.
Related Terms: reputational risk, regulatory risk, trade secrets, political risk, pandemic risk
References
- Federal Emergency Management Agency. “Flood Insurance”.
