:Lloyd’s forecast for Northeast: Storms, global warming threats are real

The prospect of another nasty hurricane season has everyone in the insurance industry braced for a white-knuckle ride. The spectre of a hurricane hitting a major Northeast population center is hardly the stuff of Hollywood fantasy. Leading forecasters agree there is more than an 80 percent chance of a major hurricane hitting the Gulf or East Coast this year.

As the Northeast cleans up from the May storms and its worst flooding in seven decades, it might be appropriate to sound a couple of warnings.

The first warning is that New Englanders ignore the hurricane threat at their peril. There is considerable evidence suggesting the region is due for the next “Big One.”

A second warning is that the insurance industry must wake up to the threat of global warming and the growing cost of weather-related catastrophes on the world economy. Katrina underscores the need for insurers to manage risk with ever more skill so they are in a position to help policyholders in times of trouble. We don’t need taxpayer funds. Insurers can handle natural disasters — as long as they constantly refine their risk models and are free to price risk adequately.

New England flooding
Last month’s flooding left big portions of New England a muddy mess. Initial estimates suggest the clean-up costs in Massachusetts alone will be in the tens of millions of dollars. Homeowners across the state are replacing soggy carpets and rotting beams. Along Route 1, shopkeepers and industrial employers are trying to recover from days of lost business and destroyed equipment.

The flooding also emphasized the fact that most New Englanders remain exposed to the vagaries of Mother Nature. Reimbursement from the federal flood insurance program will be relatively small. That’s because the three hardest-hit states – Massachusetts, New Hampshire and Maine – have relatively low participation in the federal program. It may seem strange but less than one percent of property owners in Massachusetts have flood coverage. This despite the fact that coverage would cost the average homeowner each day about half the price of a Starbucks vanilla latte.

Many homeowners — particularly in inland communities -obviously never thought they would be susceptible to the flooding. But history suggests otherwise. All five of the federally declared major disasters in Massachusetts since October 1996 involved flooding. New England is hardly the only region that suffers from mass denial — or should I say, mass optimism. Consider this: fewer than one in eight homeowners in California has earthquake insurance.

Northeast storms
As we face hurricane season, it is important to rethink our exposure. Last year’s bout was the costliest and most destructive ever with a record 28 named storms — 15 of which became hurricanes. Forecaster Dr. William Gray of Colorado State University expects at least another 17 named storms to form in the Atlantic basin over the next six months, nine of which will strengthen into hurricanes. To make matters worse, warmer waters of the Carolinas suggest an increasing likelihood of a hurricane hitting the Northeast in early fall.

Yet according to a recent poll, less than a third of residents living along the coast from Maryland to Maine feel they are vulnerable.

It is not as though New England is immune to windstorms. A brutal 1938 hurricane killed more than 600 in New England and flooded cities. The peak gust was recorded at 186 mph at Blue Hill Observatory in Massachusetts. Waves were 50 feet high off Gloucester. More than 63,000 were left homeless and $300 million in damage was done to insured property, the equivalent of $4.1 billion today. Two million trees were uprooted, 8,000 buildings destroyed and 3,300 boats lost. On August 17, 1991 Hurricane Bob killed 18 people and caused $900 million in insured losses.

Scientists and officials agree that a repeat of those windstorms today would be many times as destructive because so much valuable real estate has since been developed on or near the shore, directly in harm’s way. The Northeast is the most populated coastal region in the U.S. More than 50 million people, or a third of the nation’s total coastal population, reside here. The risk modeling group AIR Worldwide estimates that the insured value of properties in U.S. coastal areas has roughly doubled over the last decade to more than $7 trillion.

So the threat is real. New Englanders should protect themselves with proper insurance and emergency planning. States should follow Florida’s lead in enforcing stricter regulations that require better building materials and construction practices. Insurers should reward policyholders for installing impact-resistant windows and hurricane-proof roofs. Most importantly, insurers and their state regulators must ensure that response procedures are well-tested and run as smoothly as possible — to avoid a rerun of the nightmare in New Orleans.

These are challenges we need to come to grips with quickly. By 2050, mega-catastrophes, which used to occur every 100 years, are predicted to happen once every 25 years. The United Nations predicts that losses will then be 900 per cent more costly than they are today and that may be understating the risk.

Factoring in global warming
The aftermath of Katrina and the above average hurricane activity in 2004 and 2005 have fueled a debate over the effects of global warming. Whether or not due to climate change, current sea levels and ocean temperatures are higher in the Atlantic and the Gulf of Mexico than in the past. As a result, severe Atlantic hurricanes are likely to continue.

Moving forward, if climate change takes hold as expected and temperatures rise further, it is likely to generate increased frequency of extreme storms, over a longer storm season, in a wider geographical area.

Put that way, Lloyd’s believes it is time for the insurance industry to take a leading role in understanding and managing the impact of climate change.

While much fuss is made about Washington’s refusal to sign the Kyoto accord, the fact is many U.S. state and local governments are working to cut carbon dioxide emissions by Kyoto levels and then some.

Corporate America is doing even more. It turns out going green can be good business. DuPont hoped to cut 1990 carbon emissions by 65 percent by 2010. With four years to go, the chemical maker has already slashed emissions by 72 percent. Dupont says production is up 30 percent, energy costs are down 7 percent and savings so far total $2 billion.

At a local level, improvements at a Kraft ice-cream plant saved 2,500 tons of carbon emissions a year. Productivity rose 10 percent and the plant turned into one of the most competitive.

If Corporate America is taking global warming seriously, the insurance industry should, too.

No taxpayer fund
Unlike other insurers calling for a taxpayer-funded pool for natural catastrophes, Lloyd’s believes the vast majority of natural perils are insurable. Proposed national and state catastrophe plans risk damaging the nimbleness of capital markets and force taxpayers to underwrite repeated high-risk behavior.

Alternative solutions may be called for where the economic impact is potentially more than the private market is willing or able to bear, for example for terrorism or flood.

But, unlike terrorism, the insurance industry should be able to model the impact of natural disasters with some degree of accuracy, so that exposure can be managed and risk spread.

Lloyd’s is confident that the global insurance market is well equipped to respond — as long as it is free to price risk adequately, and constantly refines its risk models. That cannot be done without climate change being factored in.

Wendy Baker is president of Lloyd’s America. This article is excerpted from a recent speech she gave before WorldBoston.