With what was once referred to as “wildfire season” fast approaching, the U.S. property insurance sector is feeling hot under the collar about rising wildfire risk in insurance underwriting.
As December’s devastating blaze in Colorado and March’s deadly wildfires in Texas have made painfully clear, seasonality may not play much of a role in assessing that risk anymore—and climate change is a primary culprit.
According to February’s landmark UN report, the risk of devastating wildfires in the U.S. and worldwide will increase 50% in coming decades as rising temperatures intensify a “global wildfire crisis” that promises more wildfires in more places over longer stretches of time.
The American west is already experiencing persistent drought conditions that could exacerbate wildfire risk in this and coming years. And the BBC reports that particles in wildfire smoke may be accelerating climate change—and could be a driving factor in this year’s sudden temperature spike in both the Arctic and Antarctic regions.
With the planet warming fast, underwriters need to rethink their game plans. Here are five considerations to take into account.
Wildfire Risk: Underwriting Exclusions May Not Protect You
From 1964 through the 1990s, U.S. insurers paid an average of less than $100 million annually toward wildfire loss. Since 2000, that average has risen to $600 million per year. In many western states, this has led to a growing number of property insurers writing wildfire exclusions into their policies. But in some states, that may not be enough. Take California, where eighteen of the worst wildfires in the state’s history have happened since 2000—twelve of which occurred after 2016.
As JD Supra reports, California insurance policies “are subject to the rules of construction governing contracts.” As borne out by case law, courts will “construe policy language according to the mutual intentions of the parties and its ‘plain and ordinary’ meaning. Ambiguity in policy language will be ‘resolved … in favor of coverage.’” And yet no matter how “plain and ordinary” the policy language, it doesn’t matter whether it’s clear to you (as an insured Californian) that wildfire damage isn’t covered. It’s whether the policyholder is.
Regulations May Soon Require You to Reward Mitigation
Given the risk, it’s not surprising that California is at the forefront of new regulations that could come into play in other states as well—including a new requirement that insurers reward homeowners who take steps to protect their homes from wildfire risks. This can include clearing vegetation from the immediate vicinity of their home, or installing a fire-resistant roof. CAPE’s own data suggests this one can be a plus for insurers.
Working with geospatial imagery, CAPE analyzed the vegetation coverage surrounding homes for 800,000 historical insurance policies and their associated wildfire damage claims. In higher fire risk areas, homes in the western U.S. with 30% vegetation coverage within 10 feet of the home had a 115% higher wildfire claim frequency and a loss ratio 272% higher than homes with 10% vegetation within 10 feet of the home. Incentivizing wildfire mitigation efforts could pay serious dividends for insurers.
‘Efficient Proximate Cause’ Can Bite
Some states apply an “efficient proximate cause” doctrine to assessing coverage. Under this doctrine, even if there are two or more separate perils that could have occurred independently of the other to cause the loss for which the claimant is seeking coverage, insurers may be required to make a payout.
As JD Supra points out, this means that if an excluded peril—a landslide, for instance—plays a part in a loss, but that landslide was ultimately precipitated by a covered loss—a fire that burned away hillside vegetation—the policy may have to cover everything, including any loss stemming from the excluded peril.
In Colorado, insurers can include anti-concurrent causation language in their policies, but in states like California and Washington they cannot. Insurers in these states will need a clear understanding of a large number of possible perils beyond those they cover or exclude.
Your Current Risk Models Are Moot
As McKinsey points out, insurers can use their annual policy cycle and their understanding of evolving risks to reprice and rearrange portfolios to avoid long-term exposure to wildfire and other climate-related perils. But there’s just one problem. The historical data insurers use to calculate that risk is based on a climate system that no longer exists. Traditional models and past loss experience are now largely irrelevant.
As a result, some P&C insurers now only offer E&S lines, with many increasing rates as much as 20%, or adjusting policy terms. Others have restricted or even stopped underwriting risks on single family homes—especially in the so-called “wildland urban interface” of Zoom Towns, second homes, and starter tracts where Americans keep moving in droves.
Our data shows these same, fast-growing, highly-wooded areas can be a powder keg. While El Dorado Hills, California, for instance, offers picturesque settings with the magnificent Sierra Nevada mountain range as a backdrop, a single spark can quickly unleash an inferno. Ditto for St. George, Utah—a mecca for retirees and vacationers near Zion National Park where water already has to be piped in from far away sources.
Insurers competing in these markets can only push up prices so far—and giving up in booming areas is hardly a prudent growth strategy. So how can they operate profitably?
Dialing Down the Heat With Property Vulnerability Intelligence
According to McKinsey, insurers will need to invest in technological solutions that help them gain a current and accurate understanding of evolving risks to price it profitably or avoid it with minimal impact on financial performance.
For too long, underwriters have been stuck with relying on area-level wildfire risk maps—while property-level risk mitigation can have a tremendous impact on claim frequency and severity. Property-specific vulnerability intelligence can help. Using our own solution as an example, we leverage high-resolution aerial imagery, computer vision, and other forms of AI to deliver up-to-date vulnerability metrics and score for structures across wildfire-prone areas. All instantly available via API, on demand.
In addition to efficiently and accurately assessing exposure to wildfire and a multitude of other perils, insurers can use the CAPE Wildfire Intelligence solution to verify or explore potential fire mitigation efforts such as defensible space around structures.
In a time when the risk of wildfire is climbing, the ability to understand risk is tough enough. Without the right property-specific intelligence, underwriting and pricing risk profitably could soon get even tougher.
To learn more about wildfire risk in insurance underwriting, read A New Approach to Wildfire Risk Analytics for the Insurance Industry from CAPE Analytics.