In today’s issue:
- A historic industry faces a global threat
- No insurance, no energy transition
- The ultimate economic game changer
The wildfires blazing through Los Angeles and the rest of California aren’t just natural disasters – they’re economic catastrophes.
Tens of billions of dollars in damages, homes reduced to ash and entire communities uprooted.
But guess who’s really sweating?
The insurance industry.
Wells Fargo and Goldman Sachs estimate that insurance payouts for the fires could surpass $30 billion, while total economic losses might hit an eye-watering $150 billion.
Unsurprisingly, insurance stocks took a nosedive when the fires broke out.
Shares of high-net-worth insurance specialists like Chubb and Cincinnati Financial dropped 5.1% and 4.6%, respectively.
Meanwhile, Cincinnati Financial could face a staggering 20% earnings-per-share (EPS) decline in 2025 because of these insured losses, according to Bank of America. Chubb, Everest and Travelers are also bracing for double-digit percentage drops in EPS.
These companies are under immense pressure, struggling with massive claims while rethinking how they price risk. The result? Insurers have no choice but to take climate risk seriously.
As John Neal, CEO of the historic insurer Lloyd’s of London, famously put it: “You’ll never find an insurer saying, ‘I don’t believe in climate change.’”
Insurers can’t afford to ignore what’s happening. Their entire business revolves around calculating risk, and rising global temperatures have thrown the old rulebook out the window.
Why we need insurers – like it or not
Love them or hate them, just like Neal says, you should be glad the insurance industry believes in climate change. They’re helping the rest of us prepare for it. Here’s how:
- Risk-based pricing: living in a high-risk area? Your premiums are going up – and it’s not just to pad insurers’ profits. It’s because the true cost of climate-related disasters is being priced in. Risk-based pricing ensures that those living in areas prone to wildfires, hurricanes or floods are paying for the heightened exposure to loss.
- Innovation in coverage: need faster payouts after a disaster? New products like parametric insurance are stepping up, offering quick compensation based on measurable triggers like wind speeds or rainfall levels. Unlike traditional policies, which require a lengthy claims process, parametric insurance provides a much-needed financial lifeline to businesses and individuals in the immediate aftermath of a disaster.
- Reinsurance markets: the global reinsurers who back your local insurer are hiking their rates and demanding tougher assessments. Reinsurance – the insurance for insurers – plays a critical role in spreading and mitigating risk. But as climate-related disasters grow more frequent and severe, reinsurers are reevaluating their pricing models, forcing primary insurers to follow suit.
The uninsured gap is growing – and that’s a problem
But here’s the scary part: even with all these adjustments, a huge chunk of the world remains uninsured. In 2023, 62% of global losses from natural disasters weren’t covered by insurance. That’s an alarming statistic, especially as climate change makes insurance less affordable and harder to get.
The Financial Stability Board (FSB) – which monitors and provides recommendations about the global financial system – has sounded the alarm.
The financial damage from climate shocks (floods, droughts, fires, storms) could trigger a chain reaction in the global economy. Natural disasters aren’t just isolated events. They ripple through financial markets, pushing up government borrowing costs, shaking investor confidence and even causing cross-border economic shocks.
“Banks could reduce lending, including for recovery efforts, to already vulnerable households and businesses,” the FSB noted in a recent report. “There could also be an abrupt, broad-based repricing of climate-physical risk, as the expectation of larger future losses is incorporated into current prices.”
Translation? The financial system is deeply interconnected and warming temperatures have the potential to unleash chaos. Events like the California wildfires aren’t just about destroyed property. They’re red flags for how climate risks could upend the global economy.
Can insurers handle the pressure?
For insurers, climate change is both a nightmare and – potentially – an opportunity.
The risks are surpassing most forecasts, pushing the industry to adapt faster than ever. But make no mistake, the stakes are sky-high. Events like the California fires could accelerate a collapse in certain segments of the insurance market.
Consider this: as insurers face mounting losses, they may pull out of high-risk regions altogether. We’re already seeing this in states like California and Florida, where major insurers have stopped writing new policies or have significantly reduced their exposure.
This leaves homeowners and businesses scrambling for coverage – or going without it entirely. The implications are dire. Without insurance, rebuilding after disasters becomes nearly impossible and economic recovery stalls.
US Senator Sheldon Whitehouse has pointed out the unprecedented risk profile facing homeowners’ insurance due to climate factors.
“The industry is looking at an entirely new and unpredictable risk profile… driven by climate factors that are worsening,” he warned. “This isn’t a fiscal blip of some kind that you recover from.”
No insurance, no net zero
Here’s the harsh reality: without insurance, achieving net zero goals is a pipe dream. Transitioning to clean energy infrastructure – wind farms, solar arrays, electric grids – requires massive investments. We’re talking about $10 trillion globally. According to Howden and Boston Consulting Group, insurance is critical to mobilising that capital.
Why? Because insurance provides the safety net that allows investors to take the leap. Whether it’s a wind farm off the coast of Scotland or a solar farm in the Arizona desert, these projects hinge on robust risk management. Without insurance, the financial viability of the green transition crumbles.
Insurance also plays a vital role in de-risking innovation. Emerging technologies like carbon capture and storage, hydrogen and advanced nuclear power are inherently risky. Insurers help mitigate those risks, making it possible for these technologies to attract the funding they need to scale up.
Investors, pay attention
What starts with insurance doesn’t stay there.
The reality of climate risk is reshaping investment strategies across the board. Dangerous locations mean higher risks and higher insurance costs, creating uncomfortable truths for homeowners, businesses and investors.
The ripple effect of climate change doesn’t stop at insurers or energy companies. It’s spreading to industries like agriculture, transportation and real estate.
For the agricultural sector, extreme weather events are disrupting supply chains, driving up food prices and creating volatility in commodities markets.
In transportation, ports and shipping routes are increasingly vulnerable to rising sea levels and extreme weather. Infrastructure investments are needed to make these critical systems more resilient, but those investments depend on insurance to manage the associated risks.
As for real estate, properties in high-risk areas are losing value as buyers factor in rising insurance costs and the potential for future disasters.
As we roll into 2025 and beyond, there’s no sidestepping it: climate risk is everywhere, and it’s driving financial markets. Ignoring climate risks isn’t just naïve – it’s a guaranteed way to lose money. From wildfire-prone California to flood-prone Southeast Asia, the financial system is adapting in real time to a warmer, riskier world.
Market realities can’t be ignored. Insurers, reinsurers and investors are already embedding climate considerations into their strategies.
You might not like that the insurance industry believes in climate change, but you should be thankful it does. Their survival ensures the financial system’s resilience and, yes, keeps the green transition moving forward.
Climate change isn’t just about melting glaciers or rising sea levels. It’s the ultimate economic game-changer. For investors, the message is simple: adapt or be left behind.
Whether through insurance, asset management or corporate strategy, understanding and managing climate risk is no longer optional – it’s essential.
Until next time,
James Allen
Contributing Editor, Fortune & Freedom
