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California Nightmare

ARTICLE BY

  • Soul Abraham
  • Chief Executive: Retail
  • Old Mutual Insure

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Is KwaZulu-Natal becoming our California? The US experience, where derisking has meant that insurers have cut back on providing cover to certain suburban areas, regions, or states, provides us with a useful case study.

The devastating, and sharply rising, impact of wildfires and floods in California over the past few years has meant some of the largest insurers have ceased writing new business in the state. They have done so because the risk of providing insurance coverage in the face of climate change and its unpredictable impact has become too high.

KwaZulu-Natal has suffered from 10 floods between July 2016 and January 2024. More than 45 people died in the latest flood this year, with 250 houses severely damaged and the cost of infrastructure and business losses amounting to about R37 billion, according to University of KwaZulu-Natal professor Hope Magidimisha-Chipungu. Does that mean the province is becoming South Africa’s California – uninsurable due to the extent of the risk?

The US experience, where derisking has meant that insurers have cut back on providing cover to certain suburban areas, regions, or states, provides us with a useful case study. If we learn from their experience, we will hopefully be able to avoid the blanket withdrawal of risk cover in areas like KwaZulu-Natal.

What is happening from an insurance perspective in California?

The biggest insurers in the US, such as State Farm and Allstate, are leaving the wildfire and flood-prone areas of California due to the significant losses they are incurring in these areas, with State Farm reporting an US$8.5 billion pre-tax operating loss in 2023. As a consequence, the insurer announced in March this year that it was cutting 72 000 California policies, citing wildfire risk – nine months after announcing it would stop issuing new coverage in the state.

Florida is another state that is seeing home insurers stop writing new business because of the mounting costs of hurricanes. Thus, the scale and scope of weather-related catastrophes is forcing US insurers to make difficult decisions, including withdrawing from these high-risk areas, raising premiums, or reducing cover. That threatens to increase the already significant proportion of uninsured people – a trend that could put the entire economic system at risk.

US Treasury Secretary Janet Yellen recently highlighted the significant consequences of a growing insurance protection gap and the impact this could have on homeowners and the value of their assets. She warned that these developments could have cascading impacts on the broader financial system.

How do we avoid that happening here?

We need to get clever about how we quantify the increasing risks associated with climate change. These include using novel data sources and AI-enabled analytics to give us a much deeper and better-informed understanding of what we can expect from climate change and how to incorporate this into our risk models.

The industry has already started exploring the ability of innovative data sources and assessment tools to factor in the rising risks of climate change. These include satellite imagery that allows us to better understand where wildfire risks are emerging and location-specific flood data to inform insurers’ underwriting decisions.

Last year Old Mutual Insure teamed up with flood science specialist JBA to develop a system that allows the actuaries to use location-specific flood data to develop a much more informed view of flood risks. Access to quality information like this will enable insurers to offer improved and more appropriate flood risk cover.

Old Mutual Insure is also using data modelling to connect insurance exposure and claims data, enabling us to simulate the long-term impacts of climate change on insurance results and risk premiums.

Customers can also play a crucial role in mitigating the impact of climate change on their personal assets, such as homes, cars, and properties. Brokers can help in this respect by having discussions with their clients about what they can do to manage their exposure to these risks, including by ensuring they conduct proper property maintenance and understand the consequences of buying properties that are at risk of rising sea levels and flood lines.

US insurers are aggressively derisking their exposures to climate change because of the risk to their financial sustainability. South African insurers are also under significant pressure, making it imperative that they increase the sophistication of their underwriting processes to factor in climate change, enabling them to price and structure policies appropriately. Failure to do so will result in the industry becoming unsustainable, impacting those looking to get insured and those already insured.

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