Piracy and its impact on the insurance industry

Hans-Rudolf Wyder, 18 Sep 2009

Global piracy has steadily increased in recent years, both in the number and severity of attacks. The increase is almost entirely due Somali pirates around he Horn of Africa and in the Gulf of Aden. The (re)insurance industry is a key player in seeking solutions to the growing threat of piracy to merchant shipping.

Reported global pirate attacks for the first six months of 2009 stood at 240 incidents reported with 31 vessels hijacked. Somali pirates were responsible for 30 of the hijacked vessels.[1] The pirates reached the vessels with small motorboats and armed with automatic weapons. To be able to stay at sea for a prolonged time and wait for an appropriate victim, the pirates use so called “mother ships”. These are usually fishing vessels which can keep a stock of petrol and supplies. The pirates’ preferred prey are vessels with a low freeboard,[2] low speed and visibly low state of preparedness to ward off attacks. Inadequate response procedures, the few available means of self protection and the lack of crew preparedness to respond to an attack, makes ships all the more vulnerable. Due to increased naval intervention in the Gulf of Aden, the pirates are shifting their operating area both further north towards the Red Sea and the coast of Oman; as well as further south towards the Seychelles.

From an insurance point of view
According to Lloyd’s List, piracy ransoms for hijacked ships amounted to around USD 50 million in 2008. About the same amount of costs were further incurred to pay for professional negotiators, lawyers and other involved parties. In comparison with a yearly premium income of worldwide hull and cargo (re)insurance business of around USD 18 billion, piracy claims costs have not yet had a huge financial impact on the (re)insurance industry. However, this could change if piracy were to increase again in other areas of the world – possibly encouraged by Somali success – or if the Somali pirates themselves become even more active. There has recently been a clear trend of increasing ransom amounts demanded by pirates. In some cases the ransom amount even exceeded the value of the ship, which represents a worrying development.

Coverage considerations
In the 19th century, Lloyd’s and the Institute of London Underwriters developed standardized clauses for the marine insurance market. These have been maintained ever since and are known as institute clauses. Piracy is a covered peril under the standard institute international hull time clauses.

Marine hull insurance covers loss or damage to hull and machinery. The hull is the structure of the vessel. Machinery is the equipment that generates the power to move the vessel and control the lighting and temperature system such as boiler, engine, cooler and electricity generator. These are the main clauses and most important in marine hull policies. In general time clauses apply for a specific period, usually 12 months.

However, due to the increase in piracy attacks, the London Market has reacted by placing piracy under the hull war insurance cover of the policies. Marine war covers commercial vessels operating worldwide, including those in war zones and problem areas. The advantage of this to (re)insurers is that the war cover has a cancellation provision which allows insurers to react to changing circumstances.

In early 2009, new policy wordings (Cargo Piracy Notice of Cancellation) were implemented which give insurers the right to renegotiate terms and conditions as under the hull war cover. Insurers are being urged to use this wording in policies covering ships operating in areas where the threat of piracy exists.

Raising awareness
Swiss Re, as a leading global reinsurer, is naturally impacted by the recent surge in piracy. Piracy-related claims have increased. In response to the situation the Swiss Re Centre for Global Dialogue hosted the Swiss Re Client Forum on Piracy in May 2009 to help shape industry understanding about the growing threat of piracy and the mitigation measures that have been taken. The forum explored the historical and political context of the problems centred around the Horn of Africa and the implications for marine insurers. Over 20 of Swiss Re’s clients gathered to hear experts and exchange views on the geo-political situation in the Horn of Africa, responses to the increase in piracy attacks and the insurance implications.

Swiss Re also advises its clients to adopt the Best Management Practices to Deter Piracy in the Gulf of Aden and off the Coast of Somalia. The guidelines, published in February 2009, were drawn up by a large number of international shipping and marine insurance industry associations together with the International Maritime Bureau (IMB) and seek to provide best management practices to counter piracy in the Gulf of Aden and off the Coast of Somalia.

Piracy is not a new problem. Wherever and whenever people have traded across the sea, pirates have carried out attacks and taken booty. The increased frequency and severity of the piracy attacks around the Horn of Africa is a major threat to global shipping industry and its insurers. But it is not only the financial implications that have captured the world’s attention. The personal safety of crews and passengers is of prime concern. The potential for loss of human life increases as the attacks become more aggressive and violence escalates.

The hijacking of the cargo ship Maersk Alabama flying the flag of the United States of America on the morning of April 8, 2009 opened a new chapter in the saga. After abandoning the ship, the pirates took the captain of the ship hostage and set off in one of the ship’s lifeboats stocked with ten days’ provisions. US Navy seals opened fire on the lifeboat, killing three pirates and successfully rescued the hostage. In August 2009, pirates holding a Taiwanese-flagged ship off the coast of Somalia fired on a U.S. Navy helicopter as the aircraft monitored the ship. The rise in violence and the use of arms is alarming and increases the pressure on international efforts to address the problem.

Preventive measures are of key importance for ship owners to deal with the situation. The shipping industry is urged to adopt the Best Management Practices and to keep abreast of latest developments through the advisories issued by the IMB and other industry organizations. The insurance industry must also be on guard to the changing risk landscape posed by the increased threat of piracy worldwide.

[1] Figures from the Piracy Reporting Centre of the International Marine Bureau (IMB). For further information, please see the accompanying article in the Risk Dialogue Magazine by Michael Howlett of the IMB.

[2] The uppermost deck of a ship with a secure means of closing all openings to be fully watertight.

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Hans-Rudolf Wyder

Hans-Rudolf Wyder

Hans-Rudolf Wyder is Head of Marine Product Centre, Swiss Re.

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