This post is part of a series sponsored by CoreLogic.
A new example of climate-conscious insurance
As climate change changes the atmosphere and increases the frequency and severity of natural disasters, insurers must adhere to a changing environment and industry rules. Scientific understandings related to climate risk modeling, investor goals and variability are evolving to meet the needs of the moment. This is putting more pressure on insurers so that they (and beyond) comply with the rules and expectations of the customer.
In order to stay competitive in this new paradigm, it is important for insurers to be aware of the latest climate risk insights into insurance space structure.
Much like a ship’s radar it goes into a deep fog, these insights can help insurers identify and avoid risky areas and business lines while identifying safe water. Below are four insights into the climate risks that insurers should consider when serving customers – and the larger insurance industry’s often muddy waters:
1. Scientific understanding of climate risk is constantly changing
Insurers need to be on top of the latest emerging sciences and determine which climate models are most appropriate and applicable to them. More than 30 groups around the world are involved in the joint model inter-comparison project of the World Climate Research Program. Each runs a complex numerical climate model that combines ocean and atmospheric physics to create climate estimates based on different carbon dioxide emissions situations.
The climate model is constantly improving, both in terms of spatial resolution and in terms of the physical processes involved in the simulation. These improvements result in more reliable estimates of how natural disasters will change at the regional level over the next few decades to the end of the century.
However, due to the relatively thick resolutions of climate change models, estimates need to be lowered to better resolutions before they are suitable for disaster risk models. CoreLogic’s goal is to help insurers understand this approach, how aspects of the climate model are incorporated into disaster risk models, and to what degree.
2. Climate change mitigation means changing models of modern disasters
Contemporary disaster models always have a level of uncertainty. Further complication occurs when disconnecting climate change signals from the natural variability of the atmosphere, leading to changes in hazards on a multi-decimal scale. Legacy disaster models use historical loss data to give credibility to model outputs. But when it comes to climate, historical losses are not enough to fully understand future risks and assess the reliability of the results.
To address this uncertainty, mitigation is effective in the form of hard measures and soft measures. Stricter measures include physically engineered structures, such as flood prevention, and usually involve large capital expenditures to meet long-term time horizons. Soft systems, usually operated by national or municipalities such as the removal of combustible debris, short-term measures and much cheaper to implement.
With disaster models responsible for both natural climate variability and physical mitigation measures, insurers are more likely to write policies correctly and provide customers with the right level of protection.
3. Regulations vary by location and danger
While science lays the foundation for the future structure of insurance, regulatory guidelines also play an important role. The current regulatory environment is significantly altered by law and order, which further complicates an already complex system. Controls exist at different levels of complexity and maturity around the world, ranging from a regulatory position to a highly determined test. So, as a global industry, what needs to be reported and monitored by any authority is a big problem for insurers.
That said, some regulators are leading the process of understanding the effects of climate change. The Intergovernmental Panel on Climate Change (IPCC) is widely regarded as the main authority in this area. Although the IPCC does not conduct scientific research, it does assess the current state of scientific understanding of climate change.
The IPCC develops Representative Concentration Pathways (RCPs), which describe four different 21St. Centuries of greenhouse gas (GHG) emissions and atmospheric concentrations, air pollutant emissions and land use. These scenarios range from business as usual (no mitigation) to strong mitigation where reductions reduce the catastrophic impact. Considering their acceptability as a standard view within the scientific, policy and regulatory fields, RCPs will rely heavily on switching to catastrophic risk models.
4. Investors predict risk and demand change
A final element to consider is the strong influence of investors. Investors are building stability in their investment strategies and demanding significant changes in the corporation’s behavior. These include the insurance industry and adjacent markets, such as real estate and mortgages, related to climate risk. It is currently governed by environmental, social and corporate governance (ESG) policy formulation, monitoring and reporting. At least three credit rating agencies (Standard & Poor’s, Moody’s and AM Best) have identified important ESG factors, including climate risk, for assessing insurers. Insurance providers must consider and implement these considerations as part of their overall approach to weather risk.
Climate risks are ever-evolving
The effects of climate change are already here, and insurers who suspend or ignore the pressing reality are at risk of losing business. By understanding the elements involved in climate risk, including scientific understanding, regulations, investors and the latest information on risk modeling variables, insurers can better serve their customers and improve their portfolios.
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