Harvey and Irma: Five Lessons For The Insurance Industry

US flood risk is firmly under the spotlight as insurers, reinsurers, businesses and public officials come to terms with the devastating impact of hurricanes Harvey and Irma.

The insurance industry will be hit hard by the losses of Harvey and Irma, which have totalled in the billions of dollars, and the insurance, business and government communities must learn from their mistakes if anything is to change. We’ve taken a look at five of the most important lessons to take from these devastating events.

However, the unfortunate truth is, none of these “lessons” are new. Harvey and Irma have merely exposed the stark truth: the need for a better understanding of flood risk in the US.

1. Flood is the least understood natural peril in the US

Flood is the most prevalent and frequently occurring natural peril in the United States and affects every state in the union. And yet, despite this, it is poorly understood.

The FEMA database, which is the main national source of flood data, is inconsistent, lacks detail and much of it is out of date. Some regions have no data, while others rely on data from the 1960s. What’s more, it lacks detail on flood depth and return periods, which are two hugely important metrics for forecasting losses.
This has unfortunately led to a false sense of security in some high-risk areas and an overstating of risks in others.

2. Long return period events should not be unexpected

The devastation caused by the two storms is rightly shocking, as current estimates suggest that Harvey was in the range of a 500-year flood event. However, this terminology can be misleading – the science and probability behind these labels are actually rather complex.
From August 2015 to August 2016, there were eight 500-year flood events recorded by the US National Weather Service. There were six 1,000-year floods in the US over the five years from 2010 to 2014. In 2015 and 2016, there were at least three each year [Source: Vox Media].  
In other words, if you dismiss these long return period events as “inconceiveable” events, you do so at your peril.

3. Flood is complex

Flood is far more complex than other perils, mainly because of the impact of local terrain features and geography. To date, the US insurance market has been focused on understanding hurricanes and storm surge, while overlooking different types of flooding.
This has been dramatically exposed by Harvey in particular. Pluvial flood was a key feature and the volume of rain (estimated at tens of billions of gallons) meant flooding was seen in many areas where river flooding (which many people think of as the sole source of flooding) has never been seen. Here at JBA, we explicitly model different sources of flood for precisely this reason.
In general, flood maps used by insurers should be based on detailed, nuanced data which cover a range of return periods, from one in 20 year events through to one in 1000 year events, and which indicate likely flood depths. Using data of the highest possible resolution and quality is also important as flood is far more localized than other perils.

4. The insurance gap is real

Too many people are underinsured for flood in the US and this has sadly been laid bare by the recent storms. In Harris County, Texas, where Houston is situated — only 80 feet above sea level and in a hurricane zone – as little as 15 percent of its structures are covered by flood insurance.
Nationwide, market penetration hovers around 50 percent of properties in 100-year flood plains. Even in very high-risk areas, such as New Orleans and South Florida, penetration rates range from just over 50 percent down into single digits.

5. The NFIP needs fixing

We can’t predict the outcome of the government’s review of the National Flood Insurance Program, but the status quo is no longer viable and the recent storms will only compound the pressure.
The NFIP is $25bn in debt and operating under a model that is no longer fit for purpose. Harvey and Irma will be significant events for the NFIP which has $2bn in cash and a further $6bn in borrowing capacity. The net result is that the NFIP will fall further into debt.
Part of the problem stems from pricing restrictions which mean roughly one-in-five policyholders are charged rates that do not fully reflect their actual exposure. But that’s only half the story: a lack of adequate data has been a significant hurdle.
Harvey and Irma will shine a spotlight on the reauthorization of the NFIP. At JBA, we think it is extremely likely that the market will open up to greater private participation in the very near future. Even if a moderate percentage of the market is transferred to private carriers, this could be one of the biggest growth markets for property casualty insurers in years - so long as they are prepared.

Preparation and awareness are key. Like any natural peril, communities and individuals need accurate knowledge, as does the insurance market that serves their needs. Part of that preparation is having a clear, up-to-date, science-based understanding of the underlying risk.
If any good is to come out of this year’s hurricane season, then the insurance, business and government communities must take heed of these lessons.