Short-term climate variability is fairly easy to measure using catastrophe models, but they aren’t the only climate-related factors. How can the more subtle, gradual impacts of climate change be quantified?
In 1987, Verisk Extreme Event Solutions founded catastrophe modeling to estimate the potential financial losses from natural disasters, such as hurricanes, wildfires, and floods. Since then, we’ve often been asked if these models capture climate change and climate variability. The answer is: yes, the models capture both. The question that follows is how the two differ and how each impacts insured losses.
The short term: climate variability
“Climate variability” refers to natural fluctuations in the climate system which can cause short-term changes in temperature and precipitation patterns. Examples of climate variability include the El Niño Southern Oscillation (ENSO) and the Atlantic Multidecadal Oscillation (AMO). Catastrophe models use historical data and statistical analysis to estimate the likelihood and potential impacts of climate variability.
Climate variabilities can significantly impact insurance losses. These natural climate patterns can cause changes in temperature, rainfall, and wind patterns, leading to an increased risk of certain types of natural disasters, such as hurricanes, droughts, and floods.
During La Niña, for example, the western U.S. tends to experience drought conditions and an increased risk of wildfires, while the eastern U.S. may experience more frequent hurricanes and heavy rainfall. However, during El Niño, the pattern often reverses, with the western states experiencing increased rainfall and the eastern states experiencing dry conditions.
Using catastrophe models, insurance companies can estimate the potential impact of climate variabilities on their portfolios and adjust their pricing and underwriting strategies accordingly. Verisk updates its catastrophe models frequently to provide a robust view of risk for the current and near-term future climate (5-10 years).
The long term: climate change
On the other hand, “climate change” refers to the long-term alterations in the average temperature and precipitation patterns of the Earth’s climate system, driven by human activities. Climate change results in rising global temperatures, melting polar ice caps, and rising sea levels, leading to environmental changes that can impact atmospheric perils, changing the frequency and intensity of events. However, it can be difficult to determine the exact proportion of insurance losses that are due to climate change, as losses from natural disasters can result from a complex interaction of factors, including climate variability, land use patterns, exposure, and adaptation.
Studies have indicated that the financial impacts of natural disasters are likely to increase due to human-caused climate change, leading to more frequent and intense extreme weather events, such as hurricanes, floods, and heat waves. According to insurance industry research, the overall cost of natural disasters has been increasing in recent decades, with the trend expected to continue in the future.
To capture the impact of climate change, catastrophe models typically use scenario-based projections, combining expected future changes in temperature, precipitation, sea level rise, and other factors. The models estimate the potential financial impacts of these changes on the insurance industry, such as the increased frequency and severity of natural disasters and the impact on property and infrastructure.
Verisk’s catastrophe models can be climate-conditioned in several ways so that the event set in the model reflects projected future climate states. These models, such as our Hurricane Model for the US, can help identify the sensitivity of insurers’ portfolios and provide a range of possibilities on how future climate change can impact average annual losses and other metrics for this peril under different shared socioeconomic pathway (SSP) scenarios provided by the latest United Nations IPCC report:
Percentage of change in hurricane-related average annual loss in the U.S. compared to 2021 results based on the recent IPCC report for sustainability and fossil-fueled development scenarios
- “Sustainability”: Significant action has been taken to limit global warming and mitigate its impacts. By 2050, the average global temperature has only risen by about 1.7ºC and might continue to rise slightly for the next 50 years.
- Our analysis shows a 20+% increase in hurricane-related average annual loss (AAL) compared to 2021 AAL under this scenario by 2050, using our US hurricane model 10K-year standard catalog.
- “Middle of the Road”: Action has been taken to address climate change despite some challenges. Average global temperatures have risen by about 2.0ºC by 2050 and will rise slightly over the next 50 years.
- “Regional Rivalry”: Actions taken have been sporadic and inconsistent, so the average global temperature has risen by 2.1ºC by 2050 and will rise significantly for the next five decades.
- “Fossil-fueled Development”: No coordinated action has been taken to address climate change, resulting in high greenhouse gas emissions and significant warming. Average global temperatures have risen by 2.4ºC by 2050 and will rise dramatically for the next 50 years.
- Our analysis shows a 40+% increase in hurricane-related AAL from 2021 AAL under this scenario by 2050, more than double that of the “Sustainability” scenario, using our US hurricane model 10K-year standard catalog.
Climate variability plus climate change
While climate variability is still a major factor in determining the frequency and intensity of hurricanes, Verisk research indicates that climate change also plays a role and will likely contribute to an increase in the frequency of hurricanes in the future. The impact of climate change on other perils is harder to assess, though more frequent inland and coastal floods and larger wildfires are likely to occur.
It’s important to note that the accuracy of catastrophe models depends on the quality and availability of data, as well as the underlying assumptions and methodology used in the models. At Verisk, we deliver data-driven, science-based solutions, a task that would significantly strain the resources of many insurers. Furthermore, the degree of variability in climate approaches and potential outcomes produces a uniquely wide range of outcomes for insurers to consider. Verisk’s climate change solutions produce insights to help guide insurers in making smart risk decisions. Leading insurers and reinsurers use our climate change solutions to stress-test and rebalance portfolios, improve climate risk insights, and streamline reporting. Other use cases are responding to regulatory requirements following the Task Force on Climate-Related Financial Disclosures (TCFD) framework, which are being widely adopted by regulatory bodies globally.