More than 3 million households in northern Kenya’s arid and semi arid lands depend primarily on livestock as their main livelihood. The risk of drought renders these pastoralist households vulnerable to large herd mortality shocks, and thereby large income shocks as well. Index-based insurance products offer great promise for managing climate related risks that vulnerable households face. This project proposes a theoretical dynamic demand analysis of the index based livestock insurance (IBLI) pilot in Marsabit district. We use dynamic programming techniques to generate an option value measure of welfare gains attributable to IBLI for individuals with various levels of herd size. In particular, we analyze how insurance influences dynamically optimal behavior near a poverty threshold.