Flood insurance and the insurance gap

Part 1

Mark Maroon:

Hey, everybody. Welcome back to Climate Check. This is Mark Maroon, VP at American Modern, a Munich Re company, and today I'm joined by Raghuveer Vinukollu, Senior Vice President and lead for Munich Re Insurance America's Natural Catastrophe Solutions Group. Raghuveer, thank you so much for joining me today.

Raghuveer Vinukollu:

Thank you, Mark. Glad to be here.

Mark Maroon:

So as the lead for Munich Re's Nat Cat Solutions Group, what is your role? What is your division primarily responsible for?

Raghuveer Vinukollu:

As part of the Nat Cat Solutions team, the way we are structured, we are actually structured within what is called the strategic products of the reinsurance division. What we do is we are really focused on out of the box solutions in terms of from an insurance industry standpoint for property. So anything that is traditionally not covered as part of the property insurance or homeowner's insurance, it comes to our desk. Let me give you an example, flood insurance. Flood insurance is traditionally not covered as part of homeowner's insurance. So the private market, after 2012, which is when the Biggert-Waters legislation went through, and as part of the National Flood Insurance program, the private market saw there was an opportunity to provide better solutions for flood insurance.

And Munich Re has since then actually evaluated the market, but also been a market leader. We have our own white label solutions, white label flood product, which is called the Inland Flood Coverage, IFC, product, which a lot of us know, but we also support the traditional NFIP reinsurance. We also support them, but also support new insurance products by our clients to come up with either a standalone flood insurance policy or an endorsement of flood insurance, so flood insurance in general is something that was kind of the genesis of this team of the strategic products.

But that's not the only thing that we work on. We also look into severe convective storms as apparel, but look and bring in something like a parametric solution to it. We have evaluated deals that look into community-based approaches. How can we increase the take-up rate of insurance, whether it is flood or whether it is wildfire? Because we want to focus also on a risk mitigation. So risk mitigation is integral for insurance, because on a long-term basis, we want the underlying value at risk to be sustained. So how does that combine with insurance to bring something like a community flood product or a community wildfire product? So these are some of the products that we evaluate within this team.

Mark Maroon:

Thank you. That's a great introduction and there's a lot to unpack there, so I think I first want to maybe dive a little bit deeper into the flood product. So you had briefly mentioned the NFIP. Can you briefly describe what that is and how some of those shortcomings there might provide an opportunity for Munich Re to provide solutions?

Raghuveer Vinukollu:

Sure. So the National Flood Insurance Program is primarily the main source of flood insurance for homeowners, although it has been in place since 1968. And what I would like to say there is the private market at that point had stepped back on insuring flood risk and that's when the government stepped in. However, there is more to that story. The story is that there was extreme events and there was no plan in place for management of flood plains and where people can build, and that was one of the main reasons why the private market stepped back. So the government stepped in and the National Flood Insurance Program was set up as a very thoughtful program where the government took about 35 years of that program and said, "Well, let's put a 35 years program together where we're going to give time for homeowners to get a subsidized insurance if they're already living in a floodplain. But at the same time, over that timeframe, let's think about having proper floodplain management, proper land use management, so that people can move away from the high risk."

And 35 years, it makes sense because it's more than the average mortgage period, which is a 30-year in general. However, what happened was the subsidization of the insurance happened over time. Absolutely, they kept it, but the flood plain management was not done appropriately. What that means is that in fact about 54% of them flood maps produced by FEMA, which are called the flood insurance rate maps, they're outdated, which creates a bigger issue because flood risk, as we all know, has been increasing. And in fact, flooding is actually the number one natural disaster for the United States. According to FEMA itself, 99% of the counties have flooded in the United States since 1996.

Now, that's a number that needs to be a little bit looked carefully. When a hydrologist like me would say that there is a 99% of the place that's flooded, that's different because we are looking at flooding in general, whether it impacts people or not. But when it comes from FEMA, that 99% of the counties are flooded, that means it has impacted people, impacted people in almost every single county. So what it is that because these maps are outdated, there's a huge issue there because a lot of people are caught off guard because they think they're not in a high-risk zone and they could be in a high risk zone, and one example could be Hurricane Michael. It impacted the panhandle, Mexico Beach was impacted, and a lot of people were caught off guard because they didn't have flood insurance. And what it highlighted was a huge portion of Mexico Beach was tagged as or labeled as X Zone, which is a low-risk flood zone. Now, that's because those masks were outdated.

Now, there's another problem is people think that this would not happen to me or people think that flood insurance is covered within their homeowner's policy. So there's a multiple reasons where flooding is impacting people, whereas the take-up rate is really low, and National Flood Insurance Program by the construct is not getting more because it's only mandated for people to buy flood insurance if they're in a special flood hazard area, which is the high risk zone, and if they have a mortgage. So in total, they have had only around five to 5.7 million policies over the last 10 years. The number keeps fluctuating and now going between the NFIP and the private market, so there is the huge protection gap.

So we all know that there is about 126 to 130 million homes in the United States, and as I said, there's 5 million to 5.7 million policy holders for flood insurance in the US. So that's a huge protection gap. So whenever there is a flood event, and including as recent as Hurricane Ida, there is a lot of these events have highlighted that, including Superstorm Sandy and Hurricane Harvey, that about 80% of the homeowners don't even have flood insurance every time there is an event in these urban areas. Now, our take is that we actually think that flood should be part of the traditional homeowner's policy so that the point of sale is addressed. Right now, the homeowners does not know, a lot of them don't know, that their homeowners does not cover flood insurance and they get caught after the event that there is.

So our view is that an endorsement policy works better, and that's the genesis of our IFC product, which is our white label product. It has actually been a great product. We are one of the only companies that actually can stand and say that we have really addressed the protection gap with about 40,000 policy holders that never had flood insurance, that have some level of flood insurance. Most of the other private market is either a competing NFIP product. As I earlier said, it's switching between NFIP versus the private market. But our IFC product has definitely gone beyond the NFIP policy and we can probably say there's 40,000 of those policy holders that never have flood insurance, and now they have.

Mark Maroon:

Thanks. Yeah, I think you bring up a really important point around the protection gap, and it seems like the maps from the NFIP are seemingly a bit more outdated these days with the advent of climate change and seeing some of the effects from perhaps more inland flooding from hurricanes, or maybe even the changing dynamic of some of these storms like Hurricane Florence or Hurricane Harvey, where they seemingly have slower forward speed and they sit and spin over these areas and just drop a ton of rainfall over them. So one thing I did want to ask about, especially since you brought up Hurricane Ida, was whether you think we need different solutions in place for communities with a large proportion of underserved populations.

Raghuveer Vinukollu:

Absolutely, there is. And let me just quickly address the fact that in a warming climate, and this is the intergovernmental panel on climate change has shown, but also the National Climate Assessment in the United States has also shown, that there is going to be extreme precipitation with in a warming climate. That's because if the average temperature increases on the average temperature of the air, the air has a higher moisture-holding capacity as it gets warmer. And that is one of the reasons some of these hurricanes actually are able to hold that much amount of moisture and then dump it in a lot of regions. So as we have seen since 2017, we have seen Hurricane Harvey, alike events, and some of them that you mentioned, Hurricane Florence. There has been Hurricane Sally last year, and this year, Hurricane Ida. A lot of these events have shown that hurricanes are increasingly known for their flooding impact as compared to previously as a wind peril. So don't get me wrong, the peril of wind is still an issue, but most of these hurricanes are now being known for their flooding impact.

Mark Maroon:

Let's go ahead and pause there and pick up on the issue of how natural disasters and in particular increased flooding is impacting underserved communities. So folks, please join me for part two of my discussion with Raghuveer Vinukollu up next, and head over to munichre.com/climate for more information. We'll see you next time.

Part 2

Mark Maroon:

Hi everyone, this is Mark Maroon, Vice President at American Modern, a Munich Re company, continuing my interview with Raghuveer Vinukollu, Senior Vice President and Lead for Munich Reinsurance America's Natural Catastrophe Solutions Group, discussing the importance of flood insurance.

Raghuveer, in part one you talked about national flood insurance programs and the flood impact of hurricanes. What does this mean for communities that have large proportions of underserved population?

Raghuveer Vinukollu,:

Now coming to the question of these underserved communities, as I mentioned earlier, there's only about 5.7 million homeowners that have some kind of flood insurance between NFIP or the private market. If we take that, then we know that, first of all, that is only people who are really at risk that are purchasing some kind of flood insurance. And because of the nature of the portfolio, most flood insurance policies are expensive for low-income communities. So really the issue of affordability is a big question. And, in fact, some of the reports by FEMA, especially the one in 2018, which addresses the affordability consent, show that about 24% of the homeowners pay more than 5%. They spend about 5 to 7% of their gross income on flood insurance. Now, that's an expensive way... I mean, if you look at that, it's very expensive.

So how do we create solutions that can address affordability? Because as part of when we talk about protection gap, we have to think about everyone including the low-income communities. And for that reason, we think that products like the IFC are best fit where we have created mostly a product that is a low limit policy, but it's a low premium. Now, how do we take some of those and offer it to more of a public entity like a city of New York, to create some kind of a public-private partnership where the city or the county could pay or could subsidize part of that premium for the homeowners, for those low-income communities. And that way we are able to provide a solution for these communities as well.

Mark Maroon:

That makes sense. I mean, I have to imagine it's pretty challenging to get actuarily adequate rates in some of these areas, especially considering the increased volatility that you would expect from the drivers of climate change. So I guess I would ask you how do you think that we can collaborate with either national or state and local governments to allow this risk to be priced appropriately but still address some of these affordability issues that you so importantly pointed out?

Raghuveer Vinukollu,:

Yeah, I totally agree that it's a very challenging issue and especially challenging in a changing climate. Even if we look at it as a present climate, it's challenging, but the climate is continuously changing. In fact, climate is changing so drastically that one of the questions for the industry is, is it even fair to use the terminology one in 100-year storm or one in a 500-year storm? Because as I mentioned earlier, the Hurricane Harvey-like events are more frequently happening and those are highly severe events. So the frequency and severity is changing.

So the question is how do we address the volatility? And what I take is we want to go back to the basics. Let's go back to the basics of insurance. It's called one for all, all for one. And if we think about insurance as a feedback loop, it's the underlying value at risk that's changing, which means there is more frequency and more severe events happening. So the average expected loss is increasing. But also something else is increasing, which is your volatility or the standard deviation. And these two variables are really going to impact the average premium. And so in this feedback loop, the only way, so if we do not change anything, the premiums are going to increase. And then it becomes a question on how do we address the affordability? And that's the ceiling, right? That's the cap we have. We have to address affordability, otherwise the protection gap will increase even further.

So to address that within the loop, the only way to address this value at risk and the standard deviation would be to address it through risk mitigation. We have to have ways to control the losses. We have to have increased awareness of risk mitigation. But if we put the onus on a homeowner, that's really going to be a long-term strategy, but we need it a little sooner. So that is when it comes back to our proposed solution of thinking about risk mitigation and risk transfer as a combined approach with these public entities at the state and national level and focus on risk mitigation at the community level. And the infrastructure of this country is really something that needs to be revisited. When I talk about infrastructure, even, I'm talking particularly about the flood-related infrastructure. In fact, most of the Mississippi River levees and dikes were built after the 1927 Great Mississippi Flood. So it just highlights how all this infrastructure is. I mean, we're only doing patchwork, and that needs to be addressed so that we can address this risk mitigation, which in turn can actually reduce the premiums.

So some of the work that we've been recently partnering with these public entities is to combine these risk mitigation and risk transfer talks. Let's not look at those in silos. And what we have shown is if we focus on risk mitigation and evaluate the benefits of risk mitigation and show the reduction in premiums over time, then it actually shows that the reduction in premium is going to partially pay for, and it depends on the area, but it does partially pay for the risk mitigation itself. So that's a better discussion to have because if you think about risk mitigation in silos, then it becomes like, it's a huge amount of money to put together to mitigate something, to put a levee or to put a dike or a sea wall. But then if you quantify the benefits from an insurance angle, then it shows that we can actually show the benefits of the reduced premiums on the risk mitigation itself.

So let me just highlight via, give you a little bit of an example. So we've worked recently with the Nature Conservancy in northwest part of Missouri, right at the border of Nebraska and Iowa. And what they did over there was... As I mentioned, these are levees that are very old, and the Missouri River has had a lot of flooding, even including the 2019 floods. So as the Army Corps of Engineers were working on fixing part of the levee, Nature Conservancy proposed the idea that what about setting back the levee so that the river actually has more room to flow at that pinch point. And what a pinch point is where the river takes a turn and where the pressure on the levee is higher.

So they bought the land from the farmers and set back the levee. So what that does is basically it's a natural infrastructure because the levee already existed, but if they moved a little bit more, now you let the river flow more naturally and more wider. So the water surface elevation and the water volume decreases, which means the probability of failure of the levee decreases. So that's a mitigation effort that was considered, and the cost of that was about $3.5 million to do that, to acquire that land.

What we did over there was we evaluated a community insurance product. We evaluated about 1400 homeowners, and we said, what is the current insurance premium for flood insurance for these homeowners if they have to buy it from NFIP? And if they all bought the insurance with a private market solution from a community-based approach where it's not voluntary anymore, everyone purchases it, either the county purchases it or everyone pulls in the money and purchases it and then include the risk mitigation actually, what we found was we could almost show $1 million of saving per year just with the reduction in premium. So again, highlighting that it took 3.5 million to actually put the land acquisition in place and have the risk mitigation, a million of it is already saved with one year of insurance premium. So this is the connect that we are trying to bring.

Mark Maroon:

Yeah, that's pretty incredible to think about, just how much you can save with a little bit of proactive measures. One thing, I'll get you out of here on this, we've been talking quite a bit about risk mitigation at a macro level, but I just wanted to maybe ask you about some risk mitigation at a micro level. So what are some things that an individual homeowner could do to increase the resilience of their own home to potentially decrease the vulnerability of some of these events?

Raghuveer Vinukollu,:

Well, as I said earlier, it is really difficult to manage the risk list mitigation at the homeowner level from an insurance standpoint, but from a homeowner standpoint, if they want to mitigate the risk, especially for the peril of flood, I think definitely there's been enough examples where people elevate their homes and they are much better, safer. And what are the beachfront homes doing? They actually have stilts so they can elevate their homes.

So elevation plays a critical role, but how does a regular homeowner know about this? So I think that's where building codes play a critical role. And I think Houston has been a great example. As recently as two years back, Houston came up with revised building codes to have all new homes to be elevated two feet above the 500-year level. And so, yes, there is slightly additional cost to rebuild or to build above ground, but in terms of the long-term benefits, again, if we quantify that, that will be a lot more than that additional cost of building it above ground. So I think the ideal solution would be that if every homeowner, whenever they rebuild their home or whenever they own a home, if they factor in that elevation, then I think there is a huge amount of losses that can be avoided. But also, I mean, that also shows the impact on the premium.

Mark Maroon:

Yep, that makes a lot of sense. Raghuveer, thank you so much for speaking with us today. I really appreciate having you on the show.

Raghuveer Vinukollu,:

Thank you, Mark. Thanks for having me.

Mark Maroon:

Absolutely. Folks, if you like this episode, please subscribe to our podcast. And for more information, go to munichre.com/climate. We will see you next time.