California wildfires force insurers to adapt

California wildfires in October 2017 have triggered total insured losses that top $9.4 billion in residential and commercial claims two months after the event, according to the California Department of Insurance.

More than 100,000 residents fled as wind-whipped wildfires ripped through northern and parts of southern California in October.

Wildfires break new records

“These numbers not only represent staggering losses to tens of thousands of Californians,” said Insurance Commissioner Dave Jones. “The October wildfires that devastated whole communities and tragically cost 44 people their lives have now proven to be the most destructive and deadliest in our state’s history.”

Losses might be even somewhat higher. Data provider AIR Worldwide estimated that insured losses from the Tubbs, Nuns, Atlas, Redwood, and Sulphur fires in California will be between $8 billion and $10.5 billion.

AIR’s loss estimates represent damage to residential, mobile home, commercial, and automobile lines of business, as well as direct business interruption losses; they include demand surge (increases in rebuild costs that result from shortages of labor and materials), but do not contemplate extra expenses such as debris removal.

The data provider stressed that uncertainty remains regarding losses to vineyards and wineries. “While AIR does not expect losses to wineries and vineyards to constitute the major part of the losses from these fires (residential losses are expected to dominate), it may be that the value of the equipment, machinery, and inventory at the wineries may exceed the contents values considered in AIR’s Industry Exposure Database,” it said.

Insurers feel the pain

Bermuda-based XL Group, for example, estimated the net losses of the October 2017 wildfires in Northern California of approximately $200 million primarily from the company’s reinsurance segment.

The preliminary estimates are pre-tax and net of reinsurance, reinstatement and adjustment premiums and redeemable non-controlling interest.

The Allstate Corporation has estimated pre-tax catastrophe losses of $516 million for October 2017, 90 percent of the losses relating to the five recent wildfires in the state of California.

Cat losses for Allstate in October comprised 11 events, with an estimated pre-tax cost of $501 million plus $14 million in unfavourable reserve re-estimates of prior reported cat losses.

The five wildfires in October, which killed at least 43 people and injured 185 others, could in aggregation become the most damaging event on record in the state, catastrophe model developer Impact Forecasting noted.

Nearly 9,300 structures were damaged, of which more than 8,560 were destroyed. The counties of Napa, Sonoma, Mendocino, Solano, Butte, and Yuba were among the worst affected.

The Travelers Companies estimated fourth-quarter catastrophe losses related to the California wildfires, including estimated recoveries from reinsurance, to be in the range of $525 million to $675 million pre-tax.

After tax, the incurred losses will reach between $340 million and $440 million, according to the company.

Southern California burns in December

The wildfires in Northern California were followed by others in the southern part of the state.

In December 2017, a high-pressure ridge, record temperatures and Santa Ana winds fuelled deadly fires from San Diego and Los Angeles to Ventura and Santa Barbara, again destroying thousands of homes and structures and killing two people. The Thomas Fire is going down in history as the state’s largest wildfire, charring more than 280,000 acres.

„Californians are facing more severe, more unpredictable and more frequent wildfires,"  said Insurance Commissioner Dave Jones. „Add to the equation, increasing development in areas more vulnerable to fire and you can see why wildfires are now an everyday threat to life and property for Californians."

Nearly half of California counties have housing rated at high or very high fire risk, according to the California Department of Insurance.

A wet winter exacerbated the fires

The destructive fires in 2017 were driven by a combination of environmental conditions.

“Powerful dry winds in areas with a build-up of flammable vegetation creates some of the most destructive wildfire conditions in the country,” said Philip Camp, scientist at AIR. “In both the October firestorm in Northern California and the current firestorm around communities in Los Angeles and San Diego, near-hurricane force winds fuelled rapid wildfire growth in areas with dry burnable fuels.”

Camp explained that part of the reason fuel loads were relatively high was surprisingly because of the wet winters. The increased precipitation promoted rapid growth of grasses and brush in the growing season that became dried out with the record hot summers in the fire season, all of which created an environment conducive to burning. “When extreme fire conditions exist in the presence of 50-70 mph winds, such as those that occurred in both fire storms, fire suppression efforts become largely ineffective and wildfires reach their peak destructive potential,” Camp added.

Insurers need to act

Insurers will need to rethink their wildfire exposure approach to meet a number of underwriting, risk management and regulatory challenges, according to AM Best.

Less sophisticated insurers who may have suffered losses will have to use more sophisticated analysis for decision-making with regard to underwriting and pricing, according to the December report titled “California Wildfires: More Earnings Pressure and Underwriting Issues for Insurers”. Pricing for perils such as smoke, ash, and brush fire may have to be re-evaluated. Terms and conditions for replacement cost values and living expenses will need to be more carefully examined for underwriting and pricing decisions.

Insurers have been using risk scoring models to identify areas particularly exposed to wild fires and to better establish their risk appetite and tolerances. But managing wild fire exposure is not complete once an insurer accepts and assumes a risk. Risk scoring models are not perfect, given that some of these wild fires are occurring in areas classified as low to moderate risk. As a result, wild fire losses cannot be completely avoided, and the need for loss reduction strategies is crucial. As a result, insurers have contracted with third-party wild fire defense firms, which provide monitoring and pre-suppression services if a fire approaches an at-risk property.

But the Insurance Commissioner of California has warned on the growing problem of homeowners’ fire insurance availability and affordability in many areas throughout the state.

The regulator called for changes in the law that will ensure improved availability of fire insurance in the aftermath of the wildfires in the state and some insurers’ reluctance to cover this risk.

“Insurers are increasingly using computer models to assess the risk of fires for individual homes and deciding that homes in some areas face too high a risk,“ said Jones. „In the wake of last year’s wildfires, we may see more areas of the state where insurers decline to write.

By market share, many national carriers dominate the homeowners, farmowners and commercial property lines of business in California, according to AM Best. These national carriers have been stressed by many catastrophe events recently, and those that use independent adjusters are paying more because of the current demand. All insurers will have their claims settlement processes tested by the wildfires, the report suggests. Total limit losses, while still difficult given the level of destruction, make the claims process easier to settle, but partial losses, including smoke and ash claims, often present a longer settlement process, which can strain the claims infrastructure.

AM Best suggests that insurers will need to engage in partnerships with regulators. Insurers should work closely with regulators, to adjust their pricing/terms and conditions. Regarding underwriting strategies, pricing for perils such as smoke, ash, and brush fire may have to be re-evaluated, as will terms and conditions for replacement cost values and living expenses.

Refined parameters and other enhancements on catastrophe models could lead to higher estimates of probable maximum losses (PMLs) and capital requirements, AM Best added.

Risk models may need adaptations after the recent California wildfires. “To capture the risk of wildfire, one would need to capture the complex and varying relationships between weather, fuel and wildfire that occur throughout North America,” Camp said. “The limitations of wildfire are not uniform across space, as seen in California where increased precipitation in the growing season led to increased fire activity in the fire season. Future models such as AIR’s will evolve to capture the unique combinations of drivers of wildfire that might exist in an ecosystem to accurately quantify risk and potential losses.”

Furthermore, insurers may employ more conservative capital management strategies and reinsurance partnerships in response to the number of severe events in 2017, according to AM Best.

As a result of the severe losses in 2017, insurers are likely to face higher reinsurance costs. Loss-affected areas may see an uptick in pricing, which could result in higher reinsurance costs for the primary carriers, as well as a tightening of terms and conditions such as the business interruption hours clause.

“The Wine Country Siege has reportedly triggered some reinsurance treaties, so reinsurance companies will also feel the impact,” said Tomas Girnius, manager and principal scientist at AIR.

Camp added: “The most important lesson to learn from recent wildfire activity is the recognition of the current wildfire threat. Wildfires occur wherever conditions create burnable fuel loads, be it in Northern California, Alberta, Canada or Gatlinburg, Tennessee.”

“Scientific studies predict an increase in frequency and potential wildfire risk in many areas of North America and tools quantifying the potential losses are effective in managing insurer’s exposure to wildfire risk.”