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Emerging Market for Flood Insurance

The federal National Flood Insurance Program (NFIP) underwrites the overwhelming majority of residential flood insurance policies in the U.S. As of April 2018, more than 5 million NFIP policies were in force nationwide (4.8 million residential), representing slightly more than $1.28 trillion in coverage ($1.17 trillion residential). For decades, the NFIP has been homeowners’ only option for flood insurance, but over the past several years a small private market for residential flood insurance has emerged. Policymakers are increasingly interested in learning whether the expansion of this market could help meet the policy goals of increasing the number of homeowners with flood insurance or offering more affordable coverage.

Stakeholders—in congressional testimony, op-eds, reports and other forums—have offered diverging opinions as to the appetite of the private sector in writing more flood insurance, on the existing barriers to private coverage and on the implications for the NFIP. The present state of the market is unclear, particularly because there is no nationwide database on the companies writing residential flood insurance, coverages offered, policy terms, pricing and any differences between private and NFIP flood insurance. This makes it difficult to evaluate the market’s future evolution and relationship to the NFIP.

This report aims to fill these knowledge gaps and has two primary objectives:

  1.  to document the current state of the private, residential flood insurance market across the U.S.; and
  2. to identify the main factors influencing the number and form of flood insurance policies offered by the private market.

To meet these objectives, we conducted in-depth, semi-structured interviews with 63 insurers, reinsurers, state brokers and other market participants. We also gathered and analyzed current private market data from a range of sources, including public documents, congressional testimony, news articles, state regulators and private firms.

See also: Future of Flood Insurance  

Key Findings

  • The private residential flood insurance market in the U.S. is currently small relative to the NFIP. We estimate that private flood insurance accounts for roughly 3.5% to 4.5% of all primary residential flood policies currently purchased.
  • With the exception of Puerto Rico, more policies are written by surplus lines carriers than by admitted carriers subject to state rate and form regulations. This is unsurprising, because surplus lines firms tend to cover new or catastrophic risks for which consumers may have trouble finding coverage in the admitted market.
  • Roughly 20% of private residential flood policies (and 40% of admitted carrier policies) are in Puerto Rico; another roughly 20% are in Florida. No data are available to evaluate the size of the total private market in other states or at a substate level nationwide.
  • Private market growth to date has largely been driven by the interest of global reinsurers in covering more U.S. flood risk. In the admitted market, reinsurers are assuming most of the risk for primary insurers, often in excess of 90%. In the surplus lines market, Lloyd’s of London has played a major role, backing the majority of residential flood policies.
  • Among the small number of policies written by the private sector, we identified three broad policy types. The most prevalent is what we refer to as an “NFIP+” policy within the FEMA-mapped 100-year floodplain, where flood insurance is required for federally backed mortgages. NFIP+ policies have higher limits or broader coverages than NFIP policies. Most are stand-alone policies, although some are sold as endorsements to homeowners policies. A second type is a lower-coverage-limit policy issued as an endorsement in lower-risk areas. The third type, used by only a couple of firms, mimics the NFIP policy.
  • There does not exist data to ascertain how many homeowners previously uninsured against flood are purchasing private policies versus how many are switching from NFIP policies to private coverage. Insurers in the market believe their portfolios include both newly insureds and policyholders switching from the NFIP.
  • Because the NFIP will provide a policy to anyone in a participating community, private firms can operate only where they can price lower than the NFIP or provide broader or different coverages for which there is consumer demand. In a sense, then, the NFIP is a default benchmark for comparison with private flood insurance policies.
  • Companies have identified certain types of properties or risks where they believe they can profitably operate and compete with the NFIP. Those target areas of opportunity, however, vary across firms. For example, some are restricting themselves to areas that FEMA designates as having lower flood risk, and others are focusing on areas that FEMA designates as at higher flood risk.
  • The largest U.S. homeowners insurance companies have generally been hesitant to enter the flood market, although a few have begun to enter through subsidiaries. Their caution, we learned, stems from concern about being unable to adjust rating or policy coverages as they gain experience in writing flood because of state regulatory practices; concentration of risk in their portfolio; correlation of flood with existing wind exposure; satisfaction with the current arrangement; and concern about reputational risk should they need to raise premiums or scale back coverage as they explore the potential flood market.
  • More private capital is now willing to back private flood coverage in the U.S. Interviewees agreed that, as insurers’ familiarity with flood catastrophe models grows, as underwriting experience develops and as state regulatory structures evolve, the number of private flood policies in force could continue to grow, including among admitted carriers. As of this writing, there were multiple new rate filings in many states, suggesting a continued expansion of the market.
  • Whereas the NFIP is required to take all risks, private insurers are selective in their underwriting. All interviewees agreed that the private sector will never be able to write policies for certain properties or locations (e.g., repetitive loss properties or high-tide flooding areas) at a price homeowners would be willing to pay. Substantial public investment in risk reduction, combined with aggressive land-use management, they said, was essential for limiting future exposure and encouraging the private sector to move into those areas.
  • The private market participants we interviewed differed as to how much flood risk in the U.S., and storm surge risk in particular, they thought could be underwritten by the private sector. All agreed there would likely remain a large and important role for the NFIP to play, particularly in the near term.
  • Acceptance of private flood insurance by banks and financial institutions does not appear to be a major constraint on the market at present. With very few exceptions, private insurers have told us banks ultimately accept their products, though they may have some initial questions or concerns.
  • There is a need for expanded insurance agent education about flood risk and flood insurance products, both for the NFIP and private policies. Interviewees disagreed about whether the higher-than-market commissions paid by the NFIP were creating a disincentive for the private market.
  • Most interviewees saw limited demand for flood coverage today, whether offered by the NFIP or by a private provider, and said that consumers were price sensitive.

See also: How to Make Flood Insurance Affordable  

This report was written by Carolyn Kousky, Howard Kunreuther, Brett Lingle, and Leonard Shabman. You can find the full report here.

How Risk Produces Financial Success

The evolving environment across economics, demographics and geopolitics, paired with the continuing pace of technological change, is creating an increasingly complex risk landscape for all types of businesses.

We are continuing to witness increased connections of potential risk impact on organizations. Never has it been more critical for organizations to consider the relationship between building sustainable competitive advantages and adopting risk management best practices.

It is incumbent on organizational executives and key leaders to take steps to increase their understanding of the risks they face to adapt to the changing environment. In addition, technology offers tremendous growth opportunities in the form of operational performance, automation, new products and services, new and enhanced distribution channels and improved business intelligence. However, the use of technology also increases exposure to cyber risk, which is a key concern.

The impact of connected risk has been felt by many organizations. Increasingly, boards are being obligated, in the case of regulated entities, or challenged to be acutely aware of and understand the key risks their organizations face and how they are being managed. The ability to understand, manage and develop effective organizational governance and processes that encourage improved risk-based decision-making is imperative to an organization’s financial and operational well-being.

In pursuit of the strategic objective to deliver value back to stakeholders, most organizations seek to grow their revenue or drive operational performance and efficiencies within their operating model. Invariably, in today’s complex and evolving environment, there is a level of uncertainty created in the tactical pursuit of such initiatives. Understandably, a greater level of uncertainty equates to a greater level of volatility in financial performance.

See also: How to Use Risk Maturity Models  

Researchers at Aon continue to identify correlations between advanced risk management capabilities and higher stock price performance for publicly traded organizations. Reducing volatility via the implementation of robust risk management practices should be a core objective for organizational leaders, as research repeatedly shows that higher levels of risk maturity correlate to lower stock price volatility.

Factors That Distinguish Organizations With Higher Levels of Risk Maturity

Risk professionals have long recommended a structured enterprise-wide risk identification and assessment process for organizations to tackle current and emerging risks. The Aon Risk Maturity Index Insight Report, developed by Aon in close collaboration with the Wharton School of the University of Pennsylvania, identifies three key factors to successfully understanding and managing risk:

  • Awareness of the complexity of risk
  • Agreement on strategy and action
  • Alignment to execute

Increasing performance along these dimensions requires a robust process that focuses on:

  • the identification of strengths and weaknesses
  • strong communication of risks and risk management across functions and at all levels of the organization
  • building consensus regarding the steps to be taken

Having different functions and levels involved and integrated into an organization’s risk maturity assessment process provides the foundation for determining an organization’s current status along these dimensions and provides the foundation for identifying continuing improvement activities.

Aon and Wharton researchers found continued positive impacts on stock price performance and company profitability from higher risk maturity, underscoring the positive internal and external benefits that a robust and sustainable risk management program can deliver.

In addition to a cross-functional understanding of risk, the use of sophisticated quantification methods is another key characteristic exhibited by organizations with advanced risk maturity. Aon and Wharton research shows that organizations with higher levels of risk maturity successfully integrate the use of advanced risk quantification techniques and the utilization of those outputs in the risk decision-making process.

The Relationship Between Risk Maturity and Directors and Officers (D&O) Insurance Premium

Reductions in insurance premiums are another potential financial benefit from more mature risk management processes. This can occur through two channels. First, insurance providers are likely to lower insurance premiums for firms they view as less risky, as reflected in lower volatility. Second, better understanding of risk exposures and their drivers, together with the consistent development and application of risk appetite and risk tolerance concepts to decision-making, provides the information needed to make more informed decisions about which risks to avoid, mitigate or accept and which risks to insure.

By optimizing their insurance portfolio through more mature application of risk management processes, firms can potentially reduce premiums by avoiding or mitigating the most costly risks, choosing only the level of coverage that is necessary given the firm’s risk appetite and tolerances, and improving its bargaining position with insurers.

See also: Why Risk Management Certifications Matter  

What’s more, Aon and Wharton research finds that firms with higher overall risk maturity scores paid significantly lower premiums for D&O insurance. Just a 10% increase in overall risk maturity scores is associated with D&O premiums that are 2.6% lower than the premiums paid by similar firms. This direct benefit does not take into account the indirect premium benefits that also arise from lower volatility — and thus lower premiums in firms with higher risk maturity. When we calculate the total effects of higher risk maturity on D&O premiums, including the benefits from lower volatility, the premium reduction associated with a 10% improvement in risk maturity scores increases to 3.9%.


The implementation of enhanced risk management practices represents a tremendous opportunity for all types of businesses to reduce the volatility associated with the evolving risk landscape while also leveraging the associated benefits to their D&O insurance programs.

Global Risks in 2018: What Lies Ahead?

What are the biggest risks that individuals, businesses and governments face in the year ahead, and beyond? According to the 2018 Global Risks Report, published by the World Economic Forum, the environment, cyber security and geopolitics are the areas drawing the most concern.

The World Economic Forum — which just held its annual meeting in Davos, Switzerland — develops the Global Risks Report in collaboration with Wharton’s Risk Management and Decision Processes Center.

“The big message that came out of this report is the tremendous importance of the environment” as an area to watch, said Howard Kunreuther, Wharton professor of operations, information and decisions, and co-director of the Risk Management and Decision Processes Center. “It’s not that that wasn’t [a concern] earlier, but it certainly didn’t have as high a profile.”

The other big takeaway from this year’s report is how various types of risks are interdependent, which has implications for preparation and mitigation, Kunreuther said. “You begin to see clear arrows that go from climate change to food security, to natural disasters, to droughts and to a set of things that can happen.”

To be sure, cyber security, data fraud and theft don’t necessarily link immediately to something like natural disasters. But if one of those events leads to some larger, overall instability, the outcomes could be worse than expected. “[Risk interdepenency] is a critical aspect that risk managers need to think about on a global scale. One thing can lead to other things and have a cascading effect,” said Jeffrey Czajkowski, managing director of the Risk Management and Decision Processes Center. “It’s critical for people to get their heads around it and start to think about how to better manage these risks.”

See also: Global Trend Map No. 7: Internet of Things  

The report looks at 30 different risks among five major categories – economic, environmental, geopolitical, social and technological. It draws on surveys of risk experts across the globe.

‘Pushing Our Planet to the Brink’

Heading the list of the risks in 2018 are environmental, cyber security and geopolitical risks. “We have been pushing our planet to the brink, and the damage is becoming increasingly clear,” the report states. “Biodiversity is being lost at mass-extinction rates, agricultural systems are under strain and pollution of the air and sea has become an increasingly pressing threat to human health.”

On cyber security, the report says, “Attacks against businesses have almost doubled in five years, and incidents that would once have been considered extraordinary are becoming more and more commonplace.” On the geopolitical front, “rules-based approaches have been fraying,” the report says. “Re-establishing the state as the primary locus of power and legitimacy has become an increasingly attractive strategy for many countries, but one that leaves many smaller states squeezed as the geopolitical sands shift.”

This year’s report introduces three new sections — Future Shocks, Hindsight and Risk Reassessment — in an attempt to provide “a new lens through which to view the increasingly complex world of global risks.” The Hindsight section, for example, revisits past reports “to gauge risk-mitigation efforts and highlight lingering risks that might warrant increased attention.” The 2017 Global Risks Report listed “economic inequality, societal polarization and intensifying environmental dangers” as the top three trends that will shape global developments over the next decade.

Among the greatest risks that the report focuses on are geopolitical ones such as tensions between North Korea and South Korea, Kunreuther said. The World Economic Forum brings world leaders to the table where such issues could be discussed, he added. “We want to take down a lot of the blinders here and make sure the agendas are such that we can think out of the box.”

Cjazkowski pointed out that this year’s report also highlights the need to invest in resiliency. “There’s a big push to make communities, nations and individuals more resilient to a lot of these different risks. But the big question is: How do you pay for that? Where are you going to get the financing to [promote] resiliency?” The report is taking a first step in trying to understand those issues, he said.

‘It Won’t Happen to Me’

Bias plays a big role in how potential risks are evaluated, and the report focuses on that aspect, as well. ”You need to take a long-term view of a lot of these risks and how you’re going to deal with them,” Czajkowski said. “Oftentimes, people, organizations or governments have problems thinking with a long-term view because of short-term incentives or the short-term decisions they’re dealing with.”

“It tends [to be the case] that only after an event happens do people pay attention,” Kunreuther said, adding that the report identifies this problem as “availability bias.” “[The report] is suggesting that organizations and individuals pay better attention beforehand. We can’t think of a more important message to highlight.”

For example, he says, people may hear that there is a one in 100 chance that a major hurricane may strike their area in a given year. That may seem like a low probability to many. But, “if you’re living in the same house for 25 years, there’s a greater than one in five chance of having something like this happen.”

Kunreuther explained how such messaging could lead to some planning. “Can you take steps when you don’t think [a disaster] is going to happen?” he asked. “The issue of black swans gets brought up all the time – ‘It’s such a low probability event that we’re not going to think about it.’”

See also: Global Trend Map No. 1: Industry Challenges  

Cjazkowski offered an example of how such biases play out. The Risk Center typically classifies natural disasters as “low-probability, high-impact events” for an individual or a community. But on a global scale, such incidents become a high probability, he noted. “It is going to happen — but where that’s going to be is a different question. That is where this cognitive bias comes into play.”

Kunreuther highlighted the critical role of local officials in taking the longer-term view. “The Global Risks Report is really trying to overcome the ‘NIMTOF’ acronym – “Not in my term of office,” he said. “[We need] to get people to think there’s a longer term than just getting reelected, and that they have to think about putting money into [areas like] infrastructure.”

You can find the article originally published here.

TRIA Non-Renewal: Effect on P&C?

Losses stemming from the destruction of the World Trade Center and other buildings by terrorists on Sept. 11, 2001, totaled about $31.6 billion, including commercial liability and group life insurance claims — not adjusted for inflation — or $42.1 billion in 2012 dollars. About two-thirds of these losses were paid for by reinsurers, companies that provide insurance for insurers.

Concerned about the limited availability of terrorism coverage in high-risk areas and its impact on the economy, Congress passed the Terrorism Risk Insurance Act (TRIA). The act provides a temporary program that, in the event of major terrorist attack, allows the insurance industry and federal government to share losses according to a specific formula. TRIA was signed into law on Nov. 26, 2002, and renewed for two years in December 2005. Passage of TRIA enabled a market for terrorism insurance to begin to develop because the federal backstop effectively limits insurers’ losses, greatly simplifying the underwriting process. TRIA was extended for seven years to 2014 in December 2007. The new law is known as the Terrorism Risk Insurance Program Reauthorization Act (TRIPRA) of 2007.

This week, Congress failed to reauthorize TRIA before members adjourned for the holiday recess. Now, with the expiration of the law on Dec. 31, some businesses may be left without insurance coverage in the event of a terrorist attack on the U.S. Both houses of Congress have been discussing legislation that would set out the federal government’s involvement in funding potential terrorism losses, but bills proposed by the two houses earlier this year differed, and no extension was passed.

A report from the Wharton Risk Management and Decision Processes Center found that, under the current TRIA program, some insurers have already reached a level of exposure to losses from a terrorist attack that could jeopardize their ability to pay claims, based on a critical measure of solvency: the ratio of an insurer’s TRIA deductible amount in relation to its surplus. The report, “TRIA After 2014: Examining Risk Sharing Under Current and Alternative Designs,” found that as the deductible percentage rises, as it does under the Senate bill and proposals put forward in the House, more insurers have a deductible-to-surplus ratio that is above an acceptable level. The report also sets out in detail the amount the American taxpayer and federal government would have to pay under differing scenarios.

A RAND Corp. study published in April 2014 found that in a terrorist attack with losses of as much as $50 billion, the federal government would spend more dealing with the losses than if it had continued to support a national terrorism risk insurance program, because it would likely pay out more in disaster assistance.

A report by the President’s Working Group on Financial Markets made public in April 2014 generally supports the insurance industry’s view that the expiration of TRIA would make terrorism coverage more expensive and difficult to obtain.

The insurance broker Marsh released its annual study of the market, “2014 Terrorism Risk Insurance Report,” in April. Among its many findings is that uncertainty surrounding the potential expiration of TRIA significantly affected the property/casualty insurance market. Some employers with large concentrations of workers and companies with property exposures in major U.S. cities found that terrorism insurance capacity was limited and prices higher, and some could not obtain coverage at all. If the law is allowed to expire or is significantly changed, the market is likely to become more volatile with higher prices and limited coverage, the study concludes.

Before Sept. 11, 2001, insurers provided terrorism coverage to their commercial insurance customers essentially free of charge because the chance of property damage from terrorist acts was considered remote. After Sept. 11, insurers began to reassess the risk. For a while, terrorism coverage was scarce. Reinsurers were unwilling to reinsure policies in urban areas perceived to be vulnerable to attack. Primary insurers filed requests with their state insurance departments for permission to exclude terrorism coverage from their commercial policies.

From an insurance viewpoint, terrorism risk is very different from the kind of risks typically insured. To be readily insurable, risks have to have certain characteristics.

The risk must be measurable. Insurers must be able to determine the possible or probable number of events (frequency) likely to result in claims and the maximum size or cost (severity) of these events. For example, insurers know from experience about how many car crashes to expect per 100,000 miles driven for any geographic area and what these crashes are likely to cost. As a result, they can charge a premium equal to the risk they are assuming in issuing an auto insurance policy.

A large number of people or businesses must be exposed to the risk of loss, but only a few must actually experience one, so that the premiums of those that do not file claims can fund the losses of those who do.

Losses must be random as regards time, location and magnitude.

Insofar as acts of terrorism are intentional, terrorism risk doesn’t have these characteristics. In addition, no one knows what the worst-case scenario might be. There have been few terrorist attacks, so there is little data on which to base estimates of future losses, either in terms of frequency or severity. Terrorism losses are also likely to be concentrated geographically, since terrorism is usually targeted to produce a significant economic or psychological impact. This leads to a situation known in the insurance industry as adverse selection, where only the people most at risk purchase coverage, the same people who are likely to file claims. Moreover, terrorism losses are never random. They are carefully planned and often coordinated.

To underwrite terrorism insurance — to decide whether to offer coverage and what price to charge — insurers must be able to quantify the risk: the likelihood of an event and the amount of damage it would cause. Increasingly, they are using sophisticated modeling tools to assess this risk. According to the modeling firm AIR Worldwide, the way terrorism risk is measured is not much different from assessments of natural disaster risk, except that the data used for terrorism are more subject to uncertainty. It is easier to project the risk of damage in a particular location from an earthquake of a given intensity or a Category 5 hurricane than a terrorist attack because insurers have had so much more experience with natural disasters than with terrorist attacks, and therefore the data to incorporate into models are readily available.

One problem insurers face is the accumulation of risk. They need to know not only the likelihood and extent of damage to a particular building but also the company’s accumulated risk from insuring multiple buildings within a given geographical area, including the implications of fire following a terrorist attack. In addition, in the U.S., workers’ compensation insurers face concentrations of risk from injuries to workers caused by terrorism attacks. Workers’ compensation policies provide coverage for loss of income and medical and rehabilitation treatment from “first dollar,” that is, without deductibles.

Extending the Terrorism Risk Insurance Act (TRIA):

There is general agreement that TRIA has helped insurance companies provide terrorism coverage because the federal government’s involvement offers a measure of certainty as to the maximum size of losses insurers would have to pay and allows them to plan for the future. However, when the act came up for renewal in 2005 and in 2007, there were some who believed that market forces should be allowed to deal with the problem. Both the U.S. Government Accountability Office and the President’s Working Group on Financial Markets published reports on terrorism insurance in September 2006. The two reports essentially supported the insurance industry in its evaluation of nuclear, biological, chemical and radiological (NBCR) risk — that it is uninsurable — but the President’s Working Group said that the existence of TRIA had inhibited the development of a more robust market for terrorism insurance, a point on which the industry disagrees. TRIA is the reason that coverage is available, insurers say. The structure of the program has encouraged the development of reinsurance for the layers of risk that insurers must bear themselves — deductible amounts and coinsurance — which in turn allows primary insurers to provide coverage. Without TRIA, there would be no private market for terrorism insurance.

Studies by various organizations have supported a temporary continuation of the program in some form, including the University of Pennsylvania’s Wharton School, the RAND Corp. and the Organization of Economic Cooperation and Development (OECD), an organization of 30 member countries, many of which have addressed the risk of terrorism through a public/private partnership. The OECD said in an analysis that financial markets have shown very little appetite for terrorism risk because of the enormousness and unpredictability of the exposure. RAND argued not only that TRIA should be extended but also that Congress should act to increase the business community’s purchase of terrorism insurance and lower its price. RAND also advocated mandatory coverage for some “vital systems,” establishing an oversight board and increasing efforts to mitigate the risks.

For the full report from which this is excerpted, click here.