In January, devastating fires in the Los Angeles area resulted in the tragic loss of life for at least 29 people and the destruction of over 18,000 homes and buildings. This event marked one of the most severe disasters in California’s history.
Insurance serves as a crucial form of support for individuals and communities affected by such catastrophic events. However, insurance companies are increasingly cautious about providing aid for damages related to wildfires and other weather-related risks. Globally, insurers paid out more than US$140 billion in claims linked to natural catastrophes last year, marking the fifth consecutive year with losses exceeding $100 billion.
Most of the major natural disasters that lead to substantial insurance claims, including storms, wildfires, and flooding, are expected to worsen with climate change. While increases in payouts over the past few years have been partly due to factors like more insured properties, economic inflation, and population growth, climate change significantly amplifies the overall risk, and consequently, insurance premiums.
Climate scientists are now being drawn into the insurance sector to model these escalating risks. This includes professionals who have spent considerable time in government and academia. In 2021, many joined Willis Towers Watson, a global insurance broker based in London that acts as an intermediary between corporate clients, insurers, and reinsurers.
Previously, insurers relied on historical claims to forecast future losses from similar events. They operated under the assumption that, in the absence of major unforeseen events or shifts in risk, premiums collected from a large pool of policyholders would cover the claims of a smaller subset. However, this approach proved fragile.
In 1992, Hurricane Andrew’s destruction in the Gulf of Mexico exposed the limitations of this method, causing insured losses three times higher than industry estimates, particularly in Florida. In response, insurers adopted sophisticated catastrophe models. These models integrate the physics of specific natural hazards with details about building construction and insurance data to estimate potential financial losses.
As the impact of global warming on natural hazards has become more apparent in recent years, the insurance industry has increasingly recruited climate and Earth scientists. Their expertise aims to improve risk assessment and reduce the likelihood of future financial surprises.
Today, insurers have a more realistic understanding of their customers’ exposure to weather- and climate-related risks and the potential scale of claims. Within the limits set by government regulations, insurers decide the amount of risk they can tolerate within their portfolio. They then adjust by increasing premiums for owners of more vulnerable properties and by purchasing reinsurance to prepare for losses beyond their normal capacity.
Insurers that go bankrupt cannot pay claims, thus policyholders benefit from proper risk estimation as losses can be paid with the premiums the company charges. But insurers also use the latest catastrophe modeling and climate science to justify higher prices, which are fast becoming unaffordable. Too many people are forced to choose between paying more for the same insurance, accepting lesser coverage to keep premiums manageable or letting their insurance lapse.
