A major insurer's move to raise some premiums based on flood risk represents a symbolic "first step" in the industry directly and openly confronting climate change-driven hazards, experts say.
Tower today revealed it was investing in detailed modelling revealing the risk of flooding from rain and rivers for homes across the country, and would be making flood risk ratings public.
The step meant that its customers would receive either a low, medium or high rating for their home, reflecting the potential risk of a flood and the estimated cost of replacing or repairing damage caused by flooding.
For nearly 90 percent of customers, the change meant they'd receive a reduction in the flood risk portion of their premium, at an average of about $25 each.
About 10 percent of customers will experience an increase in this portion of their premiums, with the majority of these being less than $50 a year.
Insurance premiums are made up of many parts – such as insuring for damage from fire, accidents, burglary and weather events – and the flood risk portion of Tower policies would now be matched to ratings specific to addresses.
"We believe that risk-based pricing is a fairer way to structure insurance to ensure that customers don't pay for risks they don't have," Tower's chief executive, Blair Turnbull, said.
The model underpinning the flood risk itself was being built by global company Risk Management Solutions (RMS) using data from institutions including councils, Niwa and Land Information New Zealand.
It draws on an analysis based on 50,000 years of continuous simulation of the entire precipitation cycle and all sources of flood – pluvial and fluvial – resulting in a catalogue of 350,000 simulated events.
Turnbull said Tower was "acutely aware" of climate risks faced by New Zealand.
"The launch of this model is aligned with Tower's commitment to a sustainable future and being more open and transparent around insurance and risks associated with climate change."
The country's largest general insurer, IAG New Zealand, told the Herald it regularly reviewed its pricing to ensure customers were paying a "fair and appropriate" amount for their insurance.
IAG chief financial officer Alistair Smith said the company was "closely monitoring the evolution of the external environment".
Tower's shift comes in what's been one of the insurance industry's costliest years for natural disaster related claims – with floods to blame for the bulk of around $270m in insured losses so far.
Insurance Council of New Zealand president Tim Grafton said each insurer would make its own call on how granular it wishes to price risk.
"Some may look at reflecting risk at a property level basis, but others may want to look at an area wide or even a regional basis," he said.
"These decisions reflect how each insurer chooses to manage the risks they accept as they operate in a competitive market."
He added there were plenty of examples where risk reduction measures had been applied that have enabled insurance to remain affordable and accessible.
"It is worth noting that unlike other countries, our insurers' standard house polices cover all risks – such as fire, flood, storm, wind, earthquake, volcanic, tsunami - whereas elsewhere standard house insurance is much more limited with flood cover being an optional extra."
Rising risk, rising premiums
About 675,500 Kiwis live in areas already prone to flooding, with a further 72,065 living in the firing line of where some of the most dramatic effects of sea-level rise could hit.
One recent report warned thousands of seaside homes around New Zealand could face soaring insurance premiums - or even have some cover pulled altogether - within just 15 years.
International experience and indications from New Zealand's insurance industry suggest companies start pulling out of insuring properties when disasters like floods become one-in-50-year events.
By the time that exposure has risen to one-in-20-year occurrences, the cost of insurance premiums and excesses will have climbed sharply - if insurance could be renewed at all.
The report found about 540 exposed homes in Auckland, with current median coastal flood premiums for once-in-a-century events of $2000, could reach that one-in-20-year threshold with just 15cm of sea-level rise.
If insurance was still available at that point, the report found, premiums would have soared to $10,000.
For the 1740 Wellington homes modelled, median premiums could jump from $1800 to $8700 with seas 12cm higher.
In the South Island, 4850 properties in Christchurch and 3100 in Dunedin, could see premiums leap from $1600 to $7600 and $7900, with 13cm and 14cm of sea-level rise respectively.
The research also suggested that just small increases in sea level would likely cause at least partial retreat by insurers for most of those 10,000 homes, within only 15 years.
Insurance remained a requirement for residential mortgages, and failing to maintain them could trigger defaults.
While mortgages were often granted with repayment periods of up to 30 years in New Zealand, insurance contracts were renewed annually.
An insurer could exit a market within 12 months, while a lender could still have decades before their loans matured.
That study's lead author Belinda Storey, of research organisation Climate Sigma, pointed out that Tower's new move didn't reflect tomorrow's risks, but current ones.
"But this is definitely one insurer willing to be very public about the fact that they are going to be moving in a direction where there's less cross-subsidisation, and stronger alignment with actual risk," she said.
"What this indicates is insurers are wanting to get a better differentiation between low and high-risk areas."
She was surprised at Tower's own differentiation - and suspected the company may be taking a staggered approach.
"They talk about 90 per cent having a reduction and only 10 per cent having an increase, and the increase in that proportion still only being less than $50," she said.
"Given that the analysis that we did indicates there's a significant underpricing of insurance premiums in our most hazardous locations, this suggests to me that Tower is wanting to begin to differentiate, but they're not that keen on having significant premium increases."
She said there could be a "second wave" of changes where some insurance stopped being offered to some customers.
"They're wanting to differentiate between high and low hazard locations, yet there's much less of a differentiation on price than our analysis suggests there should be," she said.
"It suggests to me that they're sending the signal today, but in two or three years' time, they may stop offering insurance to those locations that are differentiated as being in particularly hazardous locations."
Professor Ilan Noy, Victoria University's inaugural Chair in the Economics of Disasters and Climate Change, agreed Tower's announcement nonetheless marked a first step in insurers being more transparent around climate risk.
Another major study underway, led by Otago University's Professor Ivan Diaz-Rainey, is exploring when and to what extent it will impact property values.
Models already indicated that houses were expected to sell for discounts in areas with higher risks of damage from natural disaster, such as flooding.
That lower price compensated for the higher costs of insurance and repair.
One analysis suggested that, in areas with a one-in-100 year flood risk, the average steady-state sale price discount was about 4.6 per cent.
But that changed as the return period for flooding narrowed eventually to the point where homes were being permanently inundated.
The current average holding period of a New Zealand house was about 7.4 years - but those homes imminently threatened with permanent flooding were likely to become stranded assets more quickly than that period.
That raised big implications for the banking sector - and the new study would investigate the potential thresholds for state changes, such as banks withdrawing lending.
The state changes themselves could trigger a fire-sale of assets, as homeowners sold up before their assets were stranded, or simply walked away from homes with negative equity.
Given more than 60 per cent of the four largest banks' loan portfolios are made up of housing loans, even a relatively small proportion of stranded assets could threaten financial stability.
It's a risk the Reserve Bank also acknowledged last month, in a report setting out the economic risks linked to climate change.
Grafton said the Insurance Council had similarly been calling for the country to take a "long view" on climate risks.
He noted that developments were still being approved in higher risk areas, "which is adding to, not reducing, the significant challenges ahead".
"There are decisions central government need to make and there are also actions local councils need to take to reduce risks.
"Using the information from flood and climate modelling for new residential developments is critical as is investing in existing infrastructure."