California Wildfires Trigger Insurance Market Shift
The devastating wildfires that ravaged California in January have had far-reaching consequences, extending beyond the immediate destruction of property and displacement of communities. The property insurance market is now feeling the impact, with homeowners likely to experience the most significant changes.
This month, Lloyd’s of London announced a financial hit of approximately $2.3 billion related to these fires. According to Moody’s, the high value of homes and businesses affected suggests that insured losses will be among the most substantial in California’s history. State Farm, the state’s largest homeowners’ insurer, sought an emergency 22% increase in its homeowners’ insurance rates. This request was provisionally granted by California Insurance Commissioner Ricardo Lara on March 14, pending a formal hearing next month.
“The California homeowner’s market is poised for a dramatic shift, with higher premiums, stricter policies, and fewer coverage options,” one expert told Insurance Business. Commercial properties will also face increased scrutiny during underwriting processes, as insurers address substantial losses from the event.
“The impact is going to be quite different in both segments,” said Marshall Heron, national real estate practice leader at Risk Strategies. “There were already a lot of insurers that pulled out, significantly reduced coverage, or stopped renewing homeowners’ policies before this event, so I think the impact there is going to be much greater in terms of rate.”
Impact on Personal vs. Commercial Property Insurance
A shift towards excess and surplus (E&S) markets, where insurers operate outside state regulatory constraints, is becoming a reality for numerous California homeowners, particularly those in high-risk wildfire zones, according to Heron. In this unregulated environment, insurers have greater flexibility to set their own terms, which often results in higher premiums and reduced consumer protections.
On the commercial side, the impact of the wildfires will be less pronounced in terms of premium increases but will be felt nonetheless. Stricter underwriting standards will mean that businesses must demonstrate they have implemented adequate mitigation measures, including fire-resistant construction and defensible space around properties.
Underwriting criteria in wildfire-prone areas are shifting, with insurers giving greater weight to certain factors. “Construction type is going to be big,” Heron stressed. “Are properties sprinklered or non-sprinklered? How far are they from wildfire zones? How far are they from fire departments?” He added that these factors will determine whether properties remain insurable and the associated costs.
Is California Facing an Insurability Crisis?
As insurance companies reassess their risk models, questions arise about the potential for some areas becoming entirely uninsurable. However, Heron remains unconvinced that California has reached this critical juncture.
“As rates rise, and there’s a segment of the market that can increase rates beyond what the Insurance Commissioner allows, it may bring other insurers into the marketplace as rates reach a point where they believe there may be a greater level of profitability,” Heron explained.
Underinsurance constitutes a more immediate concern following the wildfires. Many homeowners believe their coverage will fully cover rebuilding expenses, only to discover that they are facing significant shortfalls when disaster strikes. The gap is further widened by the rising costs of labor and materials following a disaster, leaving many homeowners unable to rebuild.
Heron noted that this gap will be further exacerbated by rising premiums and shrinking coverage. “If we look at the history of some of these large fires, specifically the one in Colorado three years ago, about three-quarters of the homeowners were underinsured,” he stated. Mitigation efforts will also be pivotal in influencing insurance availability and pricing.
Regulatory changes are also on the horizon as officials seek to address the increasing crisis. Last month, California Governor Gavin Newsom signed an order directing the state to expedite long-delayed regulations requiring homeowners in fire-prone areas to clear combustible materials around their homes.
“Clearing dead plants, removing wooden furniture, (these are) things people might overlook outside forested areas,” said Heron. “There will be more focus on how homes are rebuilt and the materials used, especially roofing. If a roof isn’t fire-rated to a certain degree or is past a certain age, insurers may change terms, offering actual cash value instead of replacement cost. There may also be some insurers that impose higher retentions specifically for wildfire damage.”
