A few weeks ago, I argued that California has much, much bigger problems than wildfires. California’s electorate, and thus its state and municipal governments, are allergic to basic economics and finance. They enact laws and regulations that create extremely fragile systems rather than making the state a more stable and more fair place to live. This is manifest in land use, in the management of utilities providing essential services, and also in the marketplace (or lack thereof) for insurance products (among many other things).
California has made it virtually impossible for insurers to redistribute risk (which is a necessary component of the insurance business), which means a lot of California residents will likely find their property uninsurable, either because the insurance costs too much or the private insurance market outright rejects them. Many more will also probably find themselves going without other essential goods and services just to keep their house.
A new wave of wildfires is likely to reduce the availability of home insurance in vulnerable areas of California.
Home insurance already became scarce and expensive in some regions after insurers’ massive payouts for wildfire losses in the state in 2017 and 2018. Home insurers have declined to renew tens of thousands of home-insurance policies in areas with high wildfire risk in the past two years …
Reinsurers—companies that sell insurance to insurers—have started looking closely at how much wildfire risk they face and are expected to continue raising prices for customers that had wildfire-related losses.
That means insurers are likely to remain cautious about insuring homes and businesses in wildfire-prone areas, according to underwriters and brokers, and more homeowners are likely to receive nonrenewal notices in the coming months.
“There’s a lot of areas that have gone from being difficult to insure to just basically impossible,” said Timothy Gaspar, chief executive of Gaspar Insurance Services, an insurance agency in Woodland Hills, Calif. “It is something that’s going to continue to get worse.”
When homeowners shop for new insurance in those areas, they already find limited options and much higher prices.
Kelly McKenzie and her husband moved from San Francisco to Grass Valley, Calif., last year and bought a five-bedroom home. They paid $2,350 for an annual home insurance policy.
“Nobody said, ‘Don’t live there, it’s going to become a nightmare to insure,’” she said.
They received a nonrenewal notice from their insurer earlier this year. After shopping around, Ms. McKenzie got an insurance quote for $18,000.
If you think federal tax reform made housing in California less affordable, try being on the hook for homeowner’s insurance in a fire-prone area.
For any homeowners that have a mortgage against their house (i.e., most of them), procuring insurance is a covenant of the loan. Not being able to secure insurance gives the bank the right to declare that an event of default has occurred, meaning the bank then has the right to demand that the outstanding loan amount be repaid immediately (this is called accelerating the loan). For most folks, homeowners’ insurance is not a gamble they have the option of going without (like health insurance). They gave the bank the ability to put their home on the auction block without it.
How do poorly thought out financial regulations fit into this picture?
When insurers decide how much risk they can take on, a key factor is how much reinsurance they are able to buy.
But the global reinsurers, who closely study natural disasters around the world, were caught off-guard by the magnitude of California wildfire losses in 2017 and 2018.
“It is already a very strained market” for insurers who need reinsurance for wildfire risk, said Bill Fleischhacker, a reinsurance broker at Aon PLC. “If there was another big event this year…it would be a major struggle.”
Reinsurance prices have also been pushed higher by three years of hurricane damage in the Caribbean and U.S. as well as several typhoons in Japan.
Contracts for reinsurance are often written to cover several types of natural disaster in many states or regions, so it can be difficult to quantify the effect of current and recent wildfires on overall pricing. Reinsurance pricing for California wildfire risk could increase between 30% and 70% when annual contracts are renewed for 2020, while the average global price increase for those contracts would likely be less than 10%, said Hardeep Manku, credit analyst at S&P Global Ratings.
The insurance industry had long regarded wildfires as a secondary peril that wouldn’t cause more than a few billion dollars in damage. Hurricanes and earthquakes, which can cause tens of billions of dollars in damage, are considered primary perils.
But the 2017 and 2018 wildfires cost insurers more than $24 billion, according to the California Department of Insurance. Globally, each year of wildfire losses in 2017 and 2018 exceeded any previous decade going back to at least 1970, according to reinsurance brokerage Guy Carpenter, a unit of Marsh & McLennan Co s.
Beyond the size of the losses, insurers and reinsurers were shocked at how the California fires in 2017 and 2018 spread. Previous catastrophe models, which help insurers estimate losses, didn’t fully account for high-speed winds that could cause embers to travel more than a mile, carrying wildfires across highways into populous urban areas.
Insurers and reinsurers, in addition to the property losses, could pay out wildfire-related claims for California utilities that have been found liable in starting fires. They could also receive a wave of insurance claims from individuals and businesses following widespread blackouts imposed by the utility PG&E Corp. in October to reduce wildfire risk.
California regulations don’t allow insurers to include reinsurance costs as a factor in setting average home-insurance rates. But if a reinsurer raises its prices or reduces coverage, an insurer might change its own risk tolerance—and decide to not insure homes it deems too risky.
“The only thing [insurers] know for sure is if they write less of this business, they’ll have less loss,” said Nick Bellmont, a reinsurance broker for Holborn Corp. “That’s the only absolute that they know.”
Reinsurers have changed the terms and conditions of their contracts regarding wildfires, brokers said. For example, reinsurers have tightened the clauses in their contracts determining whether fires within a certain number of miles or hours of each other count as one event or many, brokers said. In the past two years, some insurers had argued that fires that burned simultaneously in separate parts of California should count as one event, meaning an insurer would only have to pay one reinsurance deductible. In other cases, insurers wanted a single fire that lasted for many days to count as two events, to double the available reinsurance coverage.
Homeowners who can’t get insurance from standard home insurers can sometimes buy coverage from nonstandard companies such as Lloyd’s of London insurers, but those policies are less regulated and often more expensive. They can also buy policies from the state insurer of last resort, the California FAIR Plan, but FAIR Plan policies offer a maximum limit of $1.5 million for homes and don’t cover such risks as theft or liability.
In some cases, homeowners are choosing to go without insurance, brokers said.
Ms. McKenzie ended up with a policy through the California FAIR Plan along with a separate policy to cover liability and other risks that the FAIR Plan doesn’t cover. The two policies together cost around $5,000, she said, and they cover less than it would cost to rebuild her house after a fire.
This gap in insurance that comes from going through a state-sponsored insurer of last resort does not only mean that the insured could be homeless after a fire event. It means they are likely not honoring their mortgage contract, which requires them to keep the collateral for their loan in good condition. (Taxpayers should also be asking questions about the financial stability of the state program and how many claims it can handle.)
Meanwhile, California keeps building new homes into fire-prone areas, including approving the state’s largest planned community at the exact location of a previous mega-fire:
I kept driving over the hills until I crossed California’s Mason-Dixon Line, where the sprawl of valley farmland gives way to the urban sprawl of the Southland. Here in the Santa Clarita Valley, I arrived just in time to see the levelers grading earth to build the first phase of Newhall Ranch. When it’s finished, it will be the largest master-planned community in California history—21,500 dwellings, seven public schools and a golf course, rising right where the 2017 Rye Fire jumped Interstate 5 and scorched the same ground.
“We went to the county planning commission and showed them photos of people running from the fire in Pico Canyon in 2016,” says Lynne Plambeck, a resident of Santa Clarita who’s been fighting growth in the path of wildfire for 25 years. “But it fell on deaf ears. It always falls on deaf ears. Until the next one.”
Perhaps the greatest problem with turning climate change into the catch-all political boogeyman is that it has produced a culture of virtue-signaling and conspicuous sustainability that conceals far more dangerous, even downright insane, decision-making.
It has nurtured a population that obsesses over plastic straws while building new communities in fire-prone areas. That talks about how cow farts are going to end the world, even as the almond milk they are swilling instead of dairy products is draining their aquifers and making California’s famed aqueduct run dry. (The state is spending millions on electricity, provided by its spark-tastic utilities, to pump water through dry zones in the aqueduct now.)
As I said before, it is amazing how much economic value this breed of stupid can destroy.