High-seas piracy triggers higher insurance rates for shippers

Published 13 April 2009

Here is a problem ideally suited for contemporary courses at business schools: Shippers face a a choice: if they send their ships to sail through the piracy-infested Gulf of Aden, they now have to pay much higher insurance; they can instead choose to take long trips around the Africa’s southern tip; both choices add millions to the cost of each journey; which one is preferable?

We have had some good news from the Gulf of Aden, as U.S. Marines rescued the cargo ship captain who was held on a rubber boat for ten days. Most of the news for the shipping business, however, is bad. Industry watchers say shipping companies already smarting from the global downturn are forced to pay extra cash for steeper premiums to cover multimillion dollar ransoms or take the long way around African continent in the hope of dodging hijackers. “The pirates were the only people who had a good year in 2008,” said Crispian Cuss, a security consultant with the Dubai-based Olive Group.

The Gulf of Aden, which connects the Indian Ocean to the Red Sea and the Suez Canal, is one of the busiest and most dangerous waterways in the world. As pirates have become more aggressive, the cost of insuring ships has gone up. Some companies are spending more time training their crews, others are avoiding the area altogether — taking long trips around the Africa’s southern tip that can potentially add millions to the cost of each journey.

Bloomberg’s Todd Zeranski writes that the coast of Somalia has been a problem for years, but it was flagged in May as an area of particular concern by Lloyd’s Market Association, and premiums have been rising — at least tenfold, according to some media reports. Neil Smith, the senior manager for underwriting for Lloyd’s Market Association, has said the exact figures are commercially sensitive in a highly competitive industry.

  • Large ships generally carry three separate types of insurance. Marine — or hull — insurance covers physical risks, such as grounding or damage from heavy seas.
  • A second type of policy, protection and indemnity, covers crew issues, while war risk insurance covers acts of war, insurgency, and terrorism.

War risk policies typically cover hijackings and piracy, insurers often charge extra for ships that venture into high risk areas such as the Gulf of Aden. Others, including Chicago-based Aon Corp. and London’s International Security Solutions Ltd., have recently launched new plans specifically tailored to cover losses incurred by piracy - for example by including ransoms and cargo delays under the same policy.

The other option available to ship operators, taking the long way around Africa’s Cape of Good Hope instead of the short cut through the Suez Canal, is also expensive. Routing a tanker from Saudi Arabia to the United States through the Cape of Good Hope, for