When tornadoes tore a six-state path through the Midwest and South during the final weeks of 2021, policyholders and insurers alike were left reeling by the costly damage. 

These December storms are expected to cost insurers roughly $5 billion in insured losses — and push the industry’s annual bill for weather-related claims to well over $105 billion. 2021 has become one of the most expensive years insurers have faced in decades; after all, insured losses caused by extreme weather events have only exceeded $100 billion three times since 1970. 

However, while the past year’s bill may be an outlier, it would be a mistake to view it as a fluke. 2021’s high claims burden, coupled with the continued influence of global warming, will influence policy prices and insurer models in 2022.

‍Global warming prompts an expensive rise in secondary peril events

In conversations about weather-related damage, it’s easy to focus on the devastating natural events — hurricanes that level cities or the tropical storms that all but blow away dockside communities. These storms tend to be both expensive and memorable. In 2005, recovery costs for Hurricane Katrina topped $172.5 billion; in 2017, Hurricanes Harvey and Maria collectively cost over $210.1 billion. 

Compared to these massive expenses, the financial burden of “secondary perils” (i.e., small to midsize events such as flooding, hailstorms, wildfires, droughts, and thunderstorms) can seem almost negligible. For instance, the winter storm that caused widespread power outages across Texas in February 2021 cost an estimated $15 billion in insured damages — less than half of the $32 billion bill posed by Hurricane Ida in August. 

However, what secondary peril events lack in cost they make up for in frequency and unpredictability. According to a reinsurance market report from the insurance broker Aon, a full 60% of insured catastrophe losses incurred in 2020 were caused by secondary perils. In fact, for eight out of the past ten years, secondary events posed greater overall costs than primary disasters. 

“It seems to have become the norm that at least one secondary peril event such as a severe flooding, winter storm or wildfire each year results in losses of more than $10 billion,” Martin Bertogg, Swiss Re’s head of catastrophic perils, commented for Scientific American in mid-December.

Climate change is already influencing insurers’ pricing and business models — and will continue to do so in 2022

While the rise in secondary perils has not been officially linked to climate change, meteorological experts generally agree that environmental warming has exacerbated severe weather events. In the future, insurers will likely need to grapple with the claims consequences of bigger storm surges, greater snowfall, and more wildfires. 

This environmental shift poses an enormous financial risk to insurers. While those in the industry can’t know for sure how climate change will impact overall claims costs, a recent climate stress test conducted by the French central bank suggests that “natural disaster-related insurance claims could increase up to five-fold in the nation’s most affected regions [and] cause premiums to surge as much as 200% over 30 years.”

The increasing risk posed by secondary perils has already translated into higher costs for insurance clients. Reuters recently reported that insurance clients in high-risk regions experienced “above-average rate increases” in the third quarter of 2022. These price increases represent a broader trend towards higher costs as insurers struggle to compensate for climate change risk.

That said, higher premiums may not be the only compensatory adjustment insurers need to make. Some in the industry suggest that retentions — the costs consumers cover before their insurance policy applies — will also increase. 

To address increasing climate risk, insurers must prioritize business flexibility

While pricing measures may offset costs to an extent, insurers will need to start thinking proactively about how to address climate risk before it poses a threat to their business. 

As writers for McKinsey put the matter in late 2020:

Because its effects are systemic, climate risk is likely to stress local economies and—more grimly—cause market failures that affect both consumers and insurers. More frequent catastrophic events, in combination with the need to meet evolving regulatory requirements, can threaten company business models—and make insuring some risk unaffordable for customers or unfeasible for insurers.

Given the potential for natural (and financial) losses looming over insurance carriers and consumers alike, now is the time for industry players to invest in digital frameworks that allow them to flexibly respond to pricing, product, and consumer service challenges. Insurers need to break free of outdated processes and find new ways to offset climate risk, meet consumers where they are, and provide service that makes even high policy costs worth the expense.

Insurance isn’t an industry known for swift change. However, if businesses attempt to apply “tried-and-true” playbooks to our evolving market, they will almost certainly fall flat; those who want to withstand the winds of change will need to start building their proverbial fortifications now.

Not sure how or where to start? Contact Gerent for a consultation.

At Gerent, we specialize in helping businesses build the technological and operational foundation they need to meet future challenges head-on. To get started and learn more, set up a personalized conversation today!