By Torolf Hamm, Senior Director, Physical Climate Risk Climate Practice and Uriel Zajaczkovski from WTW
This article, based on a recent Outsmarting Uncertainty webinar on managing physical climate risks more effectively, looks at the impact of climate change on exposures and how you can better protect your business with smarter approaches to understanding increasingly complex and inter-related natural catastrophe risks that climate change is exacerbating.
Understanding amplified physical risk exposures
Last year, natural catastrophes caused more than US $350 billion in economic losses globally, with insurance covering less than a third of these losses at just over $100 billion. Between January and June 2024, the US experienced more than $30 billion in insurance claims due to an above-average number of tornadoes, hailstorms and straight-line wind events. Texas, meanwhile, recorded its largest wildfire, which burnt 426,600 hectares.
The damages involved in these events often far exceeded businesses’ risk scenario planning considerations. So, how can you better identify, quantify and mitigate potential damage and ensure both effective insurance protection and more resilient operations in the face of escalating physical climate challenges? We argue complex and amplified exposures demand smarter, more dynamic and comprehensive approaches to understanding and responding to the risks. We examine your routes to a smarter approach to climate-amplified natural hazards in detail below.
A smarter way to address physical climate risks
By evaluating each of your assets’ aggregate hazard scores — the metric to evaluate the likelihood and potential impact of a specific hazard occurring — you can understand their exposure to various natural catastrophes. Smart hazard scores can also combine historical data and predictive insights with expert judgment, providing the comprehensive risk assessments organizations need to address property damage and business interruption risks in today’s context.
More sophisticated risk evaluations will help you identify high-risk assets and prioritize actions to mitigate potential damage. You can better detect vulnerabilities, such as the presence of basements with critical equipment in buildings or plants in flood prone regions or identify secondary peril risks such as landslides following heavy rainfall with more precision.
A combination of traditional insurance, captives, alternative risk transfer, such as parametric solutions and also cost effective and sustainable adaptation on site level can help your operations or impacted value chain recover more quickly.
Using a combination of ‘what-if’ type of severe event scenario stress testing, risk engineering, numerical and theoretical modeling can put you on the front foot to manage the landscape of increasingly complex risks. The same is true of looking beyond your organization’s boundaries to better assess the potential vulnerabilities across your value and supply chain in light of more frequent, more severe disruption due to climate change.
How to avoid under-insurance using analytics and valuations
We believe many businesses could be under or overestimating their property and business interruption risk in the context of heightened climate-related exposures. Some insurers, meanwhile, are potentially mispricing property risk, in part because their models don’t capture what used to be ‘black swan’ events – those events which are almost impossible to predict yet seemingly inevitable, after the fact. Once rare, such events are now much more common due to climate change.
Because many models call on claims experiences, they effectively play back what’s already known, rather than forecast future likelihoods and impacts. This can lead to underestimating the value of assets and subsequent underinsurance, leaving your business vulnerable to significant financial losses in the event of a claim.
Today, it’s vital to identify the different hazards and re-assess your physical risk portfolio whenever there’s a change in conditions. Analytical tools can cover a wide range of hazards, such as drought, fire, heat stress, precipitation, flood, sea-level rise and tropical cyclones and let you evaluate current conditions, as well as under future time horizons and different climate scenarios. Deploying smarter approaches such as these are particularly important in the context of business interruption. Understanding the impact of different scenarios on your operations can help you understand and quantify potential losses more accurately and calibrate your risk tolerance to determine the most effective and efficient insurance cover.
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