Reinsurers need to think of wildfire like hurricanes and earthquakes, not a secondary peril: AXA XL

Wildfire has long been part of California’s history, but in recent years the plot has taken a darker turn with more destructive, more frequent and far costlier incidents to society.

Key points:
Wildfire should be treated as a primary peril
Building codes greatly improve survival odds
Reinsurance models underestimate tail risk

New research commissioned by AXA XL from the Cambridge Centre for Risk Studies (CCRS) reveals the hazard is worsening; urbanisation is pushing more people into danger zones, more people are choosing to live in the ‘Wildland Urban Interface’, and recovery after a major event can be slow.

“It’s a primary peril in that it can do as much damage as a major hurricane or earthquake, but without the same rigour in modelling” Jonathan Gale, CUO at AXA XL Reinsurance, told Monte Carlo Today.

According to the research it is clear that this peril is changing for the worse in terms of hazard, driven by a changing climate and exposure, and the increase in number of structures in high hazard areas. While improved building codes and vegetation management can offset some risks, CCRS’s research paints a picture of a hazard and exposure growing faster than mitigation measures can keep up.

Wildfire is a global phenomenon, but California “stands apart”. The research completed by CCRS examines how climate change is contributing to the hazard change intersected with the state’s rapid urban expansion into fire-prone areas. “The only way to grow these cities, San Diego and Los Angeles in particular, is to grow into hazardous areas,” Gale explained. But this creates a difficult trade-off: urban development versus heightened fire risk.

A postcode lottery

The CCRS analysis shows a sharp post-2017 escalation. Compared with the previous 36 years, California has seen a 16-fold increase in area burned, a 15-fold increase in the number of properties damaged, and 50 times the economic loss.

Events such as the 2018 Camp Fire, which destroyed the town of Paradise, left Butte County’s GDP 20% lower seven years later, with a lasting population decline. Using satellite night-light data, researchers also found parts of Los Angeles affected by the 2018 Woolsey Fire had not fully recovered after two years. As with most disasters, poorer areas fare comparatively worse than more affluent areas.

“Getting money into a disaster area as soon as the loss happens gives communities a greater chance of getting back on their feet quicker and in a better state,” Gale highlighted. Yet in these case studies, the rebuilding and employment didn’t materialise.

Wildfire combines “the intensity of a tornado” with “a broader footprint and longer duration”, and Gale explained that the right building codes could make a big difference. A study cited by CCRS suggests properties built to the California Building Code (CBC) Section 7A and surrounded by well-managed vegetation are almost three times more likely to survive a blaze.

This has a socio-economic angle, too. Poorer communities are often more vulnerable because meeting code requirements and maintaining natural vegetation costs money. Insurance penetration outside of earthquakes is high in California and it will be interesting to contrast the reconstruction of the Eaton and Pallisades fires over time. 

Our industry needs to think about this peril more strategically

Reinsurance blind spots

For Gale, the biggest takeaway for the industry is that wildfire is wrongly labelled. “It’s considered, and treated like, a secondary peril, and it’s not. It can do as much damage as a major hurricane or earthquake.”

Treating wildfire as a secondary peril has consequences, and Gale pointed to exhausted reinsurance programmes in both nationwide and regional contexts, sometimes by a multiple of limit purchased. Not having enough limit puts enormous strain on boards and managements and can result in reinsurance disputes at the very time a client needs the certainty of cover. The models, he argued, were “deficient in terms of the extent of the extreme or tail risk” and underestimate what could happen in a truly severe event as we have seen in January – which could have been worse.  Beyond pricing, Gale worries about the system’s ability to deliver on insurance’s fundamental role: fast, effective and reformative recovery. The growth of California’s FAIR Plan and the Excess & Surplus market for homeowners signals a retreat from the admitted market. “If your market of last resort is becoming your biggest insurer, it’s a sign,” he noted. 

The CCRS work combines proprietary research using Cal Fire and disaster database records with scientific literature to measure losses and understand the pathways to resilience by tracking post-event economic performance and testing how mitigation measures perform in real-world fires.

For reinsurers meeting at the Rendez-Vous de Septembre, the message from Gale is unambiguous: wildfire needs to be elevated in risk models, priced accordingly and backed by strong mitigation strategies. “Our industry needs to think about this peril more strategically.”

Jon Gale is chief underwriting officer of AXA XL Reinsurance. He can be contacted at: jonathan.gale@axaxl.com 

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