Keeping pace with climate change

Insurers that underestimate environmental risks will fail their customers and ultimately become architects of their own downfall, according to recent research.

Jason Thistlethwaite, a climate change economist at the University of Waterloo, Canada, co-authored the research entitled, Insurance and Climate Change Risk Management: Rescaling to Look Beyond the Horizon.

Cutting to the chase, he said: "As extreme events become more frequent, insurers that ignore climate change will not put away enough money to cover their claims. To re-coup those losses, they'll have to raise rates or pull coverage from high risk areas. When this shift happens, thousands of people will lose coverage, or it will be unaffordable."

Commenting on the fate of insurers, he added: "Some insurers are better at understanding climate change than others. These organizations will survive, and likely be able to sell climate services to their counterparts struggling to understand the problem. Those that don't, will fail."

Risk on the rise

The systemic nature of extreme weather risks was underlined in The Global Risks Report 2018 published by the World Economic Forum.

In its list of top 10 risks by likelihood, extreme weather events came first, natural disasters came second, and the failure of climate change mitigation and adaption was fifth. When listing the top ten risks by impact, these three risks were placed second, third and fourth in the same order.

To put the rise of these risks over the last 10 years into context, no environmental risk featured in the top five for either likelihood or impact in 2008, 2009 or 2010.

The report states: "Environmental risks have grown in prominence in recent years. This trend has continued this year, with all five risks in the environmental category being ranked higher than average for both likelihood and impact over a 10-year horizon."

Learning from the past but looking to the future

The insurance industry is built on its ability to analyze the past to predict the future. But the speed at which weather patterns and systems are changing means future events will not mirror or even resemble those that went before.

To address this problem, insurers are creating tools and indices that use historical data, but also incorporate real-time information and sophisticated risk modelling capabilities.

These tools produce forward-looking analysis that accounts for changing climatic dynamics, generating more accurate forecasts on potential exposures and creating a more informed platform from which to manage, mitigate and price risks.

Loss prevention and mitigation is the best outcome for policyholders and when it comes to commercial property that means fortifying, adapting and locating buildings in the most appropriate way.

The insight created from forward-looking analysis allows insurers to work at such a strategic level with customers, informing their property portfolio decisions.

For example, the most effective flood maps do not merely rely on historical data. They also incorporate hydrology and hydraulic science that analyzes the flow, speed and force of water and the way it will move and distribute itself through the natural and built up environment.

The result is an accurate understanding of the future flood exposure at a given geographical location, rather than an outdated view based purely on an assessment of that location’s historical experience.

In addition, these models are updated with location-based risk assessments carried out by property engineers at hundreds of thousands of locations annually. Such assessments include the extent and nature of natural hazards, providing real-time data to update the models.

Insurers are also using data from flood, natural catastrophe and wind models to rank territories around the world by the nature of the hazards they face. These global risk indices enable companies to improve their enterprise risk management strategies and make more informed investment and expansion decisions.

They can use them to determine which locations are most resilient to disruptive events and where to locate new facilities or expand existing ones. Risk indices can also play a role in deciding which suppliers to work with and to identify potential vulnerabilities in supply chains and customer bases.

Insurers can only provide this kind of valuable insight to corporate executive teams if they have developed their understanding of climate change and invested in the tools to accurately predict potential exposures, and not all have.

Tomorrow’s world

Climate change is gathering pace and while global leaders try to stem its impact and arrest its advance companies must identify and manage their developing risks in the here and now.

Risk management and mitigation strategies based on outdated information generated by backwards-looking forecasting techniques will not produce the outcomes required or desired.

Instead insurers must provide risk assessment, modelling and pricing that accounts for the increased frequency and severity of extreme weather events if they want to both serve their clients and safeguard their own businesses.

This climate-centric approach to risk will become an increasingly important differentiating factor in the years to come and should be something that more businesses demand today.