The threat posed to insurance and reinsurance markets by climate change is seen as increasingly urgent, as it drives some in the industry to believe risks could become uninsurable, while others highlight that the uncertainty associated with this risk is breaking pricing models.
This is according to the respondents to the latest “Insurance Banana Skins” report from consultancy PwC and the Centre for the Study of Financial Innovation (CSFI) which is designed to identify the emerging, rising and significant risks as viewed by the insurance and reinsurance sector.
As you’d expect, climate change is seen as an increasing threat to the sector, but some interesting insights are shared which give an idea of the scale of the potential exposure.
The urgency is clear in the way climate change is framed as a threat to re/insurers, which is possibly a response to the last two years of significant weather and climate related natural catastrophe losses.
The report explains that climate change was in particular flagged by non-life insurance and reinsurance market participants and would have featured much more highly overall were it not for the fact that life market respondents generally ranked it a much lower threat to their businesses.
Despite this though, climate change is ranked as the 6th most pressing risk for re/insurers overall, but it had not featured in the top risks since as long ago as 2007, suggesting a heightened level of awareness and urgency in the industry.
P&C insurers ranked climate change as the 3rd highest risk, while reinsurance market participants ranked it as the 2nd highest risk to their businesses, coming only behind cyber risks.
Even brokers highlighted climate change as the 5th most important risk faced by the industry, despite the fact they don’t bear it themselves from underwriting.
In terms of regions, Latin American respondents ranked climate change highest at 4th, while the U.S., Europe and Asia all ranked it at 7th or lower.
PwC and the CFSI explained that, “The spate of natural catastrophe events has increased the urgency of this risk, and could be undermining insurance pricing models.”
The report goes onto explain that climate change used to rank lower in the listing of risks, largely because it was considered long-term.
It seems that after recent catastrophe events the urgency has risen and climate change is being seen as an increasingly current, shorter-term risk that needs addressing.
The “growing economic destructiveness of extreme weather events” was a theme throughout the responses, the report explains, while respondents also explained that climate change is expected to make some risks very difficult, or even impossible, to insure at all.
One respondent said that the additional uncertainty regarding the frequency of climate and weather events is breaking actuarial or pricing models, particularly in the reinsurance industry.
This is increasingly important to pricing as well, as if the uncertainty in frequency of losses means that loss expectations move outside of the modelled ranges, the market can expect participants to layer on added rate costs, as they will expect to be compensated for taking on this uncertainty.
In addition it was pointed out that reinsurance pricing could produce shocks for the insurance industry, if climate change raised the number of disasters and losses for the sector.
It was also mentioned that insurers perhaps aren’t buying enough reinsurance to account for climate risks in every case anyway, suggesting that more demand should be expected over time as the industry gains a better understanding of how climate risk will impact it.
Some participants in the survey also said that they are already changing their business models and strategies, in response to climate change related threats.
With changes in weather patterns, frequency and severity all being seen and in some cases attributed to climate change related risks, this looks set to drive a slow wave of adaptation through the industry, as players get to grips with the new climate reality they are likely to face.
The report gives a good insight into just how important the issue of climate change is becoming in insurance and reinsurance and how seriously its threat to the sector is being taken.
As the understanding of climate risk’s influence on global re/insurance loss costs rises, the need for additional hedging capacity, as well as truly responsive risk transfer solutions, will also rise, suggesting an increasing need for efficient capital and innovative risk bearing structures. Something the ILS market is well-positioned to assist on.
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