Managing Commodity Volatility

14 October 2016

Volatility in commodity prices continues to be a primary commercial risk for mining companies to manage. If there is a significant swing downwards on a long term basis, operational economies can mean a mine is no longer financially viable. If a swing is sustained on an upwards trajectory, then there are healthy profits to be made. That is the nature of the risk taking in the mining sector.

While the supercycle saw extremes of commodity price movement, the reality is that commodity prices move incrementally over time. As such, tracking revenue and associated gross profit attainable throughout the year can be a challenge from a Business Interruption (BI) insurance perspective.

In this blog by Tim Cracknell, Head of Risk Consulting, JLT Specialty we question whether mining businesses could be underinsuring their BI risk.

For any major mining insurance programme, the general principle is that First Loss coverage is taken out on a combined basis for the Property Damage and Business Interruption (PD/BI) risk. We see many mining businesses buying rounded limits any one occurrence in the order of, for example, USD100m, USD250m or USD500m. Generally the thinking behind this is that any one major loss at a client’s mine will not generate PD/BI losses in excess of this value even though the PD/BI values will stretch into USD billions when added together for the overall programme across all mines operated. The First Loss approach enables sufficient market capacity to be accessible and the underwriting approach is to discount what would have been charged on a full value basis in order to deliver equitable premiums.

  1. However, in JLT Mining’s experience there are two areas that are typically overlooked, which in the case of certain major losses, can result in a shortfall ininsurance proceeds against the loss suffered. This can lead to an unexpected uninsured loss that has the potential to impact the balance sheet and thepossibility of a ‘profits warning’. The two areas are as follows:The first aspect concerns how the PD/BI limit is built up. This is driven by the largestconceivable potential estimated maximum loss across the portfolio. For example, a miners largest PD loss might be assessed at USD100m with theassociated BI loss assessed at USD140m for a total of USD240m. The reality is that a level of rounding takes place and in this example a limit of USD250m might be purchased as a result. The PD value will link to the current reinstatement value established for the damaged assets. The BI value will be calculated based on the business budget that will likely use the current commodity price, with possibly some provision for a swing on price.
  2. The second relates to PD/BI insurance programmes that incorporate caps on upwards movements of commodity prices. Gold is a classic example whereinsurers require a top commodity price to be stated in the policy, and is often found deep down in the technical detail of the coverage. If that was set some years ago and has not been revisited, that cap can have a detrimental effect on a BI claim. For example, we know back in 2012 that gold hovered around the USD1,800/oz mark. If the BI coverage was capped at USD1,200/oz, then 33% of the BI claim would be inadmissible. Price caps also have relevance for other commodities; Metallurgical Coal (Met Coal) for example can often be subject to price capping in policies. Recently the coal price has seen a slight improvement after years of price falls since 2011. Again if a cap is included in a PD/BI policy, this must be reviewed periodically.

JLT therefore recommend that both these aspects be closely monitored and regularly reviewed. Questions to ask are:-

  1. Is the PD/BI First Loss limit adequate for the coming year based on a possible growth of say 10% or 20% in the commodity price?
  2. Is the commodity price cap set at a level that provides enough growth should there be an upward surge in the near future?

Whilst these two questions might seem fairly straightforward on the face of it, the reality is that this whole subject can become extremely complex and expert guidance is required.

JLT Specialty offer Business Interruption Review risk consulting services around the world to make assessments and evaluations as to the estimated maximum losses that mining clients may incur. They also provide specific tailored advice for each client as to the basis of their PD/BI coverage going forward.

For further information, please contact Tim Cracknell, Head of Risk Consulting, JLT Specialty on +44 (0)207 558 3941 or email


contact Tim Cracknell
Head of Risk Consulting, JLT Specialty