The insurance industry doesn't have sufficient risk assessment models to deal with losses resulting from climate change and urbanization.
Global warming is set to cool off the insurance industry, according to a new report by the world’s second largest reinsurer Swiss Re. The company compiled a report claiming 2017-18 insurance losses from natural disasters reached an astounding $219 billion, a record high for any two-year period. Swiss Re holds global warming and increased urbanization responsible for the rise in these loses.
Insurance losses from natural catastrophes actually dipped a bit to $76 billion in 2018, but this is only because 2017 was ravaged by hurricanes Harvey, Irma and Maria, while 2018 had no major catastrophes. Swiss Re also claims 62% of the natural disaster insurance losses were due to “secondary perils”, or the ripple effects from natural disasters.
What are Secondary Perils?
A primary peril is a rare, high intensity event like an earthquake. Secondary perils can either be independent of primary perils or be ancillary effects from them. A secondary peril that correlates to a primary peril would be a flood after a hurricane. An independent secondary peril would be a low intensity, frequent event that can be attributed to climate change, such as a river flood. Ironically, Swiss Re claims secondary perils are the primary threat to the insurance industry because they are harder to calculate risk.
“Large losses from secondary perils are occurring more regularly. This is a trend the insurance industry must act on so that we can continue to underwrite catastrophe business sustainably,” said Edouard Schmid, Swiss Re’s Group Chief Underwriting Officer.
Swiss Re finds that secondary perils have increased in both intensity and frequency due to climate change. For instance, California’s recent Camp Fire was strengthened by drought in the region. Hurricanes are strengthened by rising sea levels and temperatures. Swiss Re sees these perils continuing, along with their corresponding insurance losses.
“Secondary peril-losses will accelerate due to ongoing urbanisation, also in areas exposed to flooding such as along coast lines and in river plains, development in areas vulnerable to fire risk like wildland-urban interface, and also because of long-term climate change projections,” Edouard Schmid says.
Challenges for the Insurance Industry
There are several factors inhibiting insurance companies from properly insuring areas affected by climate change and secondary perils. When it comes to secondary peril, understanding of risk by the insurer and insured is currently subpar. Insurers commonly use historical data and flood maps to calculate risk. Better risk models for climate change are needed. As insurers co-opt new technology to develop accurate models for gauging risk, they can offer a wider range of coverage products for policyholders in danger zones.
Swiss Re also recommends the role secondary peril risk assessment can play in resilience project investing, which has proven to be a cost effective way to protect assets when implemented post-catastrophe.