Mother Nature's extreme weather events of recent years highlighted continued exposures and underlying issues in providing coverage for property and its subset, construction property (builders risk). Hurricanes and other disasters in North America accounted for a great deal of the loss payouts.
In addition to major catastrophes, secondary perils (extreme weather events of higher frequency and typically lower severity than hurricanes and earthquakes) have been on the rise in recent years as well. Secondary perils—flooding, torrential rainfalls, storm surges, etc.—can happen independently or follow a major event, adding to its impact.
TABLE 1: DEFINING PRIMARY AND SECONDARY PERILS
Peak perils with known severe loss potential for the insurance industry: traditionally well-monitored risks in developed re/insurance markets.
Examples: tropical cyclones, earthquakes, winter storms in Europe, etc.
Independent secondary perils: often not modeled and receive little monitoring by the industry.
Secondary-effect of a primary peril: not always well-captured in primary perils modeling, not in proportion to their severity potential.
Prominent examples: river floods, flash floods, torrential rainfall, landslides, thunderstorms, winter storms outside Europe, snow and ice storms, drought, and wildfire outbreaks
Prominent examples: hurricane-induced precipitation, storm surges, tsunamis, liquefaction, and fire following earthquakes
Source: Swiss Re Institute
Insurance companies continue to face large losses and unwanted creeping up of reserves from both manmade and natural catastrophe (nat cat) losses. Whether using third-party catastrophe modeling platforms or in-house proprietary tools for loss modeling, companies rely on the loss experience of 2017 and 2018 North American and Caribbean hurricanes to update the models. However, such a modeling approach may leave out a couple of the following contributing factors.
Secondary-effect perils played a significant role in the overall impact during or immediately after those primary events. The storm surge from 2018's Hurricane Michael was a significant loss driver for risks on the islands and along the shoreline. Hurricanes Harvey and Florence caused significant losses from flooding due to the excessive rainfall. Hotels and vacation resorts of 10 stories or less also performed quite poorly and experienced more damage than expected from the high winds during those events.
The "demand surge"—an escalating loss caused by the increased labor and material costs in the affected areas. A lot of locations needed repairs while the resources and access to the islands (in the Caribbean) remained limited following Hurricanes Irma and Maria.
Builders Risk and Natural Catastrophes
Today, as new projects come in, builders risk underwriters face multiple challenges and unknown variables. It is essential that insureds and their brokers provide as much clarity as possible so that underwriters can put forward their most appropriate proposals based on inputs for their cat models. Site plans, geotechnical reports, expected site elevations, and the location of key equipment in structures are all key for cat modeling. Clear and open communication early in the process ensures the policy is tailored specifically to the client's needs, reducing the risk of costly oversights and increasing the insured's ability to withstand any storm.
The major catastrophic events of the last few years caused widespread damage to virtually every property in their path. Yet, we have seen that certain types of occupancies experienced larger or higher frequency of losses. Namely, the hospitality industry was among the more severely impacted—affecting hotels, resorts, and the like. Those with oceanfront or near the ocean locations took on the most sizeable damage, but we also saw a significant number of losses to locations that were not close to the direct points of impact.
For example, the wind and water damage to the exterior walls and roofing as well as glass breakage and interior water damage. In addition, damages to other insured property typical to a resort: docks, piers, landscaping, swimming pools, golf courses, tennis courts, outdoor restaurants/bars, etc. Damages to these areas drastically increased the amount of a potential claim.
In a similar fashion, we have seen significant losses to habitational properties: apartments, condominiums, and other housing developments. Such types of properties are commonly built with wood-frame construction and often sustain significant losses during a catastrophic event.
Two other occupancy classifications with significant losses are public entity and educational risks. In that case, there are normally multiple buildings in a concentrated area, which could cause a significant loss if that area takes a direct hit.
Expectation versus Reality
Recent losses in these industries have brought to light some of the following challenges that need to be addressed before the new hurricane season kicks off.
Accurately reporting the values to avoid losses. Too often, the actual cost of repairs and replacement far exceeds the values reported during the policy binding and issuance process. Understanding how the reported values were established is imperative to ensure their accuracy. In addition, costs that are incurred as part of an adjusted loss are not included in the reported values. These costs, such as temporary repairs, water extraction and remediation, and certain fees, can make up a significant amount of the loss, but they are not considered when reported values are determined. Policy language should indicate how the difference between reported values and the cost to repair or replace are adjusted in the event of a loss.
Handling a restoration period that takes longer than anticipated. This may be caused by a combination of factors that often include the demand surge and a lack of materials and labor in such areas as the smaller Caribbean islands where getting labor and supplies is not easy. Another cause is having multiple storms hit various areas within a relatively short period, depleting the resources. And potential changes in building codes that need to be clarified or confirmed can also be a factor, contributing to the additional time necessary for restoration.
Managing expectations. As claims occur and are reviewed, there is a common disagreement among parties about which losses are covered and which aren't. While contract certainty improvements do take place year after year, these nat cat events highlight that there are still outstanding issues that can be better addressed. Such issues as landscaping, trees and shrubs, occurrence definitions, surge versus flood definitions and operation of their sublimits and deductibles, and policies with named and unnamed locations are repeat offenders from similar events in the past.
Parametric—or index-based—catastrophe insurance products are gaining in popularity over the past few years as traditional insurance policies struggle to provide adequate protection for some of the less-tangible-risks insureds face in the aftermath of a major catastrophic event, such as a hurricane. Traditional builders risk insurance responds well to hard costs, such as building damage to a partially completed project, and can even provide adequate coverage for soft costs, such as increased materials, labor, and lost revenue.
However, what if the project isn't damaged, but there is widespread damage to the immediate area? Labor, materials, transportation, and ingress/egress costs can increase substantially following a major hurricane. Traditional builders risk policies typically provide extra expense coverage only in conjunction with physical damage and subsequent rebuild. Similarly, what if a hurricane hits at the start of the project when there are no hard assets present? Costs are still likely to rise due to damage in the surrounding area that leads to labor and material shortages, infrastructure availability problems, and other postevent costs.
Without a damage trigger, how can coverage be provided? One option is a supplemental parametric insurance policy that pays out preagreed funds based on wind speeds in the immediate area during a major hurricane. Following a hurricane, location-specific data is gathered from independent data providers that allow for a quick, transparent payment process, which provides the owner (or contractor) liquidity and funds to help offset the variety of costs associated with completing the project on schedule. In addition, parametric funds can also be used for net exposure arising from the builders risk policy, such as deductibles, excluded costs, or sublimited costs. Parametric products can be a good solution for insureds who carry a great deal of high self-insured retentions in a concentrated geographic area or insureds who have complicated or varying traditional insurance arrangements on their existing placements.
Learning from Common Mistakes
Despite the advanced technology that brought forward better modeling abilities, the importance of clear communication is frequently overlooked. An open dialogue between the underwriting team and the broker/insured team is the best way to make sure that all sides of the trading relationship can be best served. This "old school" approach applies whether you are reviewing risk specifics, discussing potential wording issues and limitations, cat modeling outputs, alternative available products, or all of the above.
Based in New York, Joe DiRubbo is the head of engineering, large risks, for Swiss Re Corporate Solutions.
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