How Insurance Is Shaping the Built Environment

Wednesday, May 13th, 2015
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With homes washed away and parts of the Central Coast declared a natural disaster zone, the recent storms in New South Wales have once again demonstrated the unpredictability of nature and the risk to both lives and properties. With devastation comes insurance claims.

A major challenge for the industry is the measurement of risk. Over a 100-year period, fewer than 10 people died from earthquakes in Haiti. Then, in February 2010, more than 200,000 lost their lives.

“You cannot simply wait for catastrophes to happen to work out the technical price for catastrophe insurance,” said Dr. Robert Muir-Wood, RMS chief research officer. “The big losses are too infrequent and variable. The insurance catastrophe model creates a virtual population of ten thousand or a hundred thousand years of catastrophes, from which it is now possible to find the annual average loss cost.”

The model, Muir-Wood explained, is reconfigured, utlising a variety of parameters from location to time of day, to measure casualties.

“For example, most earthquake casualties occur when buildings collapse, so the building inventory and vulnerability data need to be focused around this outcome,” he said.

“Then the distribution of ‘human exposure’ within the buildings must be calculated for at least two key times of day, because it makes a big difference whether people are at work or at home. An earthquake at 2 a.m. may have only 10 per cent of the casualties of an earthquake at around 2 p.m.”

These models can be run at individual building level. This enables the ranking of buildings that present the greatest risk to prioritise where to focus rebuilding or strengthening.

Earthquakes are one thing, but what about storms, which are a more global risk?

Severe convective storm risk from damaging thunderstorms, hailstorms, tornadoes, and straight-line winds can occur anytime, and nearly anywhere. In the US, the breadth and high frequency of such events produces insured losses on a par with hurricanes and over three times greater than earthquakes. Among all single catastrophe events worldwide, US hurricanes generate the largest insured loss.

Many expect the damage from hurricane-force winds, but few are adequately prepared for the resulting floods. Coastal flooding contributed to nearly 65 per cent of Superstorm Sandy’s $18.75 billion total insured loss.

Hurricane behaviour itself is unpredictable. Winds and storm surge heights can fluctuate widely before they hit land, making it difficult to predict their impact, but advances in technology enable the simulation of the complex interaction between wind and waves throughout the hurricane’s life cycle to provide a more accurate, comprehensive view of coastal flood risk.

This allows insurers to model risk with confidence down to the local level. They can even underwrite and assess localised surge risk and damage, and quantify contents and structural damage floor by floor. Limitations can also be quantified to help analysts obtain a more holistic view of risk and understand a portfolio’s sensitivity to known uncertainties associated with storm surge risk.

So what are the insurance ramifications of building in high risk areas and how could insurance modelling impact the way we design and construct?

The Insurance Council of Australia (ICA) says, despite the risks, more and bigger buildings are being built in disaster-prone areas, such as cyclone-vulnerable regions and flood plains.

“Over the past few decades coastal regions, in particular the east coast, have experienced intense development and population growth, much of it in places that are vulnerable to flooding and tropical storms,” a spokesperson for the ICA said.

“This is compounded by the fact the properties being built are not always being constructed to be sufficiently resilient and durable in the face of extreme weather. Homes are built to protect the occupants but they are not generally being built to last. This creates safer buildings but they remain vulnerable to damage.”

Individual insurers and the industry in general rely on Australian standards to test the suitability of building products, and work closely with building standards committees on these issues. If it becomes obvious that a building product is no longer suitable, resulting for example in a higher proportion of claims received by insurers, the industry may address this directly with the building standards committee.

For example, a building insulation material was found to be rated incorrectly for use in certain circumstances, and the ICA worked with the Building Codes Board to change the coding for the use of this product.

To encourage policyholders to understand and explore the risks and vulnerabilities of their property, the ICA is developing the Building Resilience Tool (BRRT). BRRT is designed to encourage homeowners, home buyers, home builders and property professionals to adopt improved material selection and design.

A component of this is the Building Resilience Knowledge Database, a portal of information on the resilience of building products and materials to extreme weather events. BRRT will provide a comprehensive listing of all building materials available in Australia, such as roof tiles and insulation blocks, and list how durable they are to certain risks, such as saltwater inundation or hail damage.

“As the BRRT is developed and becomes more widely used, it should help contribute to a change in attitudes on the importance of building durable, resilient properties,” an ICA spokesperson said.

On a macro level, various reports (including the Productivity Commission’s report into disaster funding, the Australian Government Actuary report into home and contents insurance and strata insurance in North Queensland and the Financial System Inquiry) reinforce the need for federal, state and local governments to protect communities from hazards such as floods, cyclones, storms and bushfires, and make appropriate planning decisions to account for current and anticipated extreme weather events. The most recent Productivity Commission report adds that insurers should share their expertise and information such as claims data to inform these land use planning decisions

“When support is lacking, coupled with a failure to make informed land use planning decisions, this can increase a local government’s risk of exposure to litigation,” said Mark Baker-Jones, special counsel, environment, planning and climate change adaptation at DLA Piper. “This is particularly true where a local government is perceived to have acted negligently because of a failure to act appropriately, or a failure to respond at all, to the impacts of climate change.”

As a case in point, in the US, insurers filed a class action claim against local governments in the Cook County region, saying that the local governments, as the sole authorities charged with supervising and coordinating stormwater management across the municipalities, through their negligence to adopt reasonable stormwater management practices, caused economic loss to the plaintiffs.

The insurer claims that the local governments should have known about the increase in intensity, duration and frequency in rainfall from climate change, and failed to adopt and implement policies to deal with the impacts.

Recently, Lloyds, one of the world’s biggest insurers, stated that “climate change projection based approaches are required for those making long-term commitments, for example, insuring or investing in infrastructure.”

“The message being sent from the insurance industry and acutely demonstrated in the action in the US is that it is not the physical impacts on assets that are the main concern when dealing with the impacts of climate change,” said Baker-Jones. “The primary concern for those charged with land use planning and development of infrastructure lies with decision making – how those assets are dealt with and how they are planned, managed and operated in light of the physical impacts.”

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