How climate data gives insurance companies an edge over climate change

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Climate change affects everyone. Extreme temperatures drive weather events to new levels, making floods, fires, and heat waves more destructive than ever before. The increase in population in high-risk areas also puts more people and property in danger. Stronger and frequent natural disasters are destroying properties at record-breaking rates and putting entire food systems at peril.

According to a report by McKinsey & Company, Hurricane Harvey in 2017 alone caused $125 billion in economic damage. In addition, the 2019–20 Australian bushfires killed more than a billion animals and cost the Australian economy $4.4 billion in damages. A study conducted by Aon, a US-based insurance company, estimated the economic losses from natural disasters to be at $343 billion and insurance losses at $130 billion globally in 2021. The loss is 18 percent higher than in 2020.

The graph below depicts the amount of damage caused by weather or climate-related issues to the global economy in the past five decades.

While all sectors are affected by climate change, some face a direct impact. Industries like energy, agriculture, transport, and construction, among others, fall into that category. However, all sectors will ultimately be impacted indirectly in the forms of inflation, the shift in consumer trends, and the effect on the supply chain.

Business activities are also highly affected by frequent extreme weather events (heatwaves, droughts, or heavy rainfall) and more gradual climatic situations (rise in sea level, rise in temperatures, or changing rainfall patterns). These changes create risks for people and economies, from labor challenges to increasing insurance costs. 

A Deloitte report stated that climate change and extreme weather events directly impact 70% of all economic sectors worldwide. It also emphasized that climate-related events affect more than 1 in 4 organizations worldwide. This makes it extremely important for businesses to start taking initiatives to mitigate the impact of the changing climate.

The impact of climate change on insurance

With the rise in climate-related threats, the insurance sector can have difficulty adjusting to the losses. Insurers have to be careful not to underestimate the genuine danger of climate change. It can potentially stress local economies and cause market failures that affect both consumers and insurers.

Large-scale disasters like hurricanes and wildfires are capable of completely destroying an entire community or town. This leads to a large claim that has to be paid out at the same time, leading to massive losses for insurers. Insurance companies distribute risks so that no individual has to bear the entire burden of a loss.

The business model for insurance depends on actuarial science to conduct risk assessments so that the sector can stay afloat. However, these models only work when many people buy the insurance and only a handful suffer the kind of damage that requires big payouts.

An increase in the frequency of severe weather events can threaten the insurance industry’s business model, making insurance for certain risks unaffordable for customers or unfeasible for insurers. With the escalation of climate risks, insurers must start addressing the impact of a changing climate on their underwriting, pricing, and investment decisions. 

A report by Capgemini and financial industry body Efma (now Qorus) stated that only 8% of insurers are preparing adequately for the impact of climate change. In addition, the report said that insured losses from natural catastrophes have increased 250% in the last 30 years. Extreme climate events will only impact the planet and businesses further, leading to a faster rise in insured losses.

How climate and environmental data can aid insurance

Through their risk management expertise, insurers can play a crucial role in protecting their customers. With an integrated approach to analyzing the physical, transitional, and liability risks of climate change, insurers across industries can better protect themselves and their businesses. Climate data can contribute significantly to this integrated approach, benefiting the insurance industry as a whole.

Using advanced data and analytics techniques, insurers can simulate and predict how various hazards are likely to affect them over time. They will be able to utilize detailed climate and environmental data, down to the risk of flood or fire for a location, and analyze the implications of climate change. They can combine climate and environmental data with their expertise on evolving risks to reprice and rearrange portfolios and avoid long-term exposure to climate events.

Here are some ways insurance companies can leverage the power of climate and environmental data.

• Integrating severe weather alerts: In 2020, nearly 40% of all insurance claims were attributed to weather-related damage, according to LexisNexis Risk Solutions. Severe weather events are hazardous to people, property, and the economy. Using features such as severe weather alerts and forecasts can help the insurance sector plan, prepare, and adjust to disasters to avoid severe losses.
  

• Tracking active fire: According to the National Interagency Fire Center (NIFC), there was a 17% increase in wildfires from 2019 to 2021 and a 223% increase since 1983 in the U.S. alone. Locations outside the U.S. also face significant wildfires throughout the year. Tracking active fire to avoid damage to lives and property can go a long way for insurance companies.

• Keeping a tab on pollen levels: Climate change has led to prolonged pollen seasons and increased the intensity of allergies. The insurance sector can use pollen data to keep track of the pollen levels in different locations and be ready for any health-related insurance claims.

• Monitoring air pollution: Depleting air quality is a health hazard, especially for those who suffer from respiratory ailments. It can often lead to hospitalization and severe treatment. Insights into real-time air quality can assist insurance companies in better underwriting, particularly for health insurance plans.
  

• Tracing GHG emissions: Greenhouse gasses are a major cause of climate change. Tracking and tracing GHG emissions down to a location can help insurance companies assess the damages and be ready for future damages caused by emissions on health and the economy.
  

At this point, the insurers should focus on fortifying their assessment of climate-related risks and take steps to demonstrate their climate readiness. With environmental data, insurers can make easy, informed decisions. Insights into real-time and future emissions can support insurance companies in better underwriting, pricing, and portfolio adjustments.

The future of insurance

According to the report by Efma, more than 30% of insurers globally restrict investment in unsustainable companies, and more than 20% restrict insurance cover. While many organizations such as Chubb, Axis Capital, Swiss Re, and Zurich Insurance have adopted coal exit policies, many others are far from it.

Climate and environmental data can help insurance companies start their journey towards making informed decisions and keeping the climate at their business's core. Insurance companies must use their understanding of risk and climate science to reduce the physical effects of climate change for themselves and their customers. 

With the help of climate data, the insurance sector can better protect customers long-term. They can not only safeguard the people and the businesses from financial liability, but also serve as an example for the rest of the business world.

Learn more about how air quality data can be important for the insurance sector.