Escalating Flood Costs & Compounding Events Test Financial Resilience

By Dharisha Mirando 24 August, 2021

Can't avoid the extreme weather events we've baked in, we must be realistic and adapt - CWR's Mirando urges

Economic losses of storms & floods sum up to US$636bln - this is only set to rise as extreme weather events will only be compounding
Through better flood management, warning systems & post-recovery strategies, we need to prepare ourselves to lower the human & economic cost
We need to decarbonize & adapt at the same time - there will be multiple investment opportunities yet very few banks, investors, companies & gov take climate & water risks into account together

It’s only August and what a year it’s been so far in terms of extreme weather. Whether it’s been floods, droughts, too high or too low temperatures – the extremes that the world has experienced this year have been unprecedented.

And we’ve only warmed by 1.1ºC-1.2ºC. What happens when we get to over 4ºC by 2100, which is possible according to the IPCC if we keep polluting the way we are? With the G20 focussed on decarbonising coal but still investing in the highly polluting oil and gas sector, these higher temperatures are looking more likely.

Must adapt for water risks as “Water is the primary vehicle through which we feel the impacts of climate change

So, in addition to doing more to reduce carbon emissions, we must adapt to the physical impacts and factor them in because as the World Meteorological Organization (WMO) succinctly puts it “Water is the primary vehicle through which we feel the impacts of climate change. To find out more on upcoming physical impacts, check out our summary “Code Red: 8 things you need to know about water in IPCC AR6“, but for now let’s look at the cost racked up so far on extreme events…

Costs are escalating

With the extreme weather setting new records as CWR’s Xu explains, it isn’t surprising that water-related hazards dominate the list of disasters in terms of both human and economic costs over the past 50 years. The top 10 events for economic losses include storms (US$521bn) and floods (US$115bn). Sadly, this is only set to rise with climate change.

The costs are clearly mounting – just looking at recent floods, the numbers look scary…

Compounding extreme events = more preparedness or rising clustered risks 

We can’t avoid these risks as we’ve already baked in multiple impacts with our actions. So, we need to be prepared to lower the human and economic cost of these events through

  • better flood management plans to reduce the overall impacts;
  • warning systems so that affected areas can be prepared through evacuation and sufficient protection in place for assets; and
  • better strategies for post-recovery so that flood-hit areas can still bounce back soon after an event.

Managing and planning for these risks become even more important because as we’ve seen this year, these extreme events quite often happen at the same time and sometimes in the same location – this is something the IPCC is calling “compound extreme events”.

IPCC defines it as “the combination of multiple drivers and/or hazards that contribute to societal or environmental risk. Examples are concurrent heatwaves and droughts, compound flooding (e.g., a storm surge in combination with extreme rainfall and/or river flow), compound fire weather conditions (i.e., a combination of hot, dry, and windy conditions), or concurrent extremes at different locations.

If a lot of people, assets and economic activity happen to be in the same place as these compound events, then the losses are going to be even higher. We’re already seeing this in coastal areas as we explored in our CWR Coastal Capital Threat Series.

Do year-on-year compounding extreme events signal the end of insurance?

Insurers could play a major role by incentivising cities, banks and corporates to plan, run plausible worst-case scenario stress tests and adapt for the reality of more extreme weather events as well as chronic long-term risks due to climate change.

Insurance is already getting expensive & difficult to get due to the cost of extreme events…

However, insurance is not as widespread as many think – even in Germany only 46% of households have flood insurance. But even with insurance, you might be in trouble – it’s getting more expensive. And even worse, you might not be able to get insurance anymore – for example, Californians are finding it more difficult to get home insurance due to the wildfires escalating each year as droughts worsen.

… but can insurers even survive if acute extreme events become chronic risks?

And then the other question is, can the insurance sector survive higher extremes coupled with “compounding” events? Last year these events in the US meant that the insurance market paid out more in claims than it received in premiums. This could become the norm especially if the frequency of acute extreme events makes them into chronic risks. We are already starting to see this with wildfires and floods.

Clearly, we need to adapt and stop relying on false promises

Hoping that countries in the G20, that currently lead the pollution league table, will now do their part is silly. We need to stop running away from what we have locked in and be realistic about the worst case.

We need to stop siloing climate & water risks so we aren’t blindsided by oncoming systemic shocks

So, grab the bull by its horns, factor these risks into all plans, strategies and valuations, and adapt flexibly. Since water is how we will feel all climate impacts, according to the WMOTo effectively address both water and climate challenges, we must bring climate change and water to the same table – into the same conversation: Tackling them as one.

Currently very few banks, investors, companies and governments are taking climate and water risks into account together when planning, whether it is for infrastructure spending or even long term business planning. But, we need to stop siloing these risks and value them properly as they have the ability to trigger systemic shocks across the financial industry. This isn’t the first time we’ve mentioned it either – just this year we talked about here and here. And this might happen sooner rather than later as central banks are starting to see the linkages too.

And when you do this, you’ll recognise that there are multiple investment opportunities here too because we need to decarbonise and everyone will need to adapt too. But you’ll only see this if your eyes are wide open.

Further Reading

  • Banking in the Age of Water Risk – Are water risks and their potential impacts factored in by banks? Or is ‘water exposure’ just the water used in their office buildings & branches? Tan says prudence dictates we must start to waterproof portfolios
  • 3°C Transition Risks: It’s H2O, Not Just CO2 – Heed warnings from CWR’s Dharisha Mirando & Debra Tan to focus on both carbon + water risks as we head to a 3°C warmer world
  • 3 Reasons Why APAC Banks Must De-risk Now – CWR’s Dharisha Mirando explains why APAC banks must lead & de-risk, plus she catches you up on the latest new stats from science and finance, so you won’t be blindsided
  • Are Asia’s Savings Exposed To Water & Climate Risks? – Asian asset owners have portfolios skewed towards domestic markets that will bear the brunt of climate change. Find out about these risks and what to do as our Dharisha Mirando shares key takeaways from the new report China Water Risk co-authored with Manulife Asset Management & the Asia Investor Group on Climate Change
  • No-Sense Climate Strategies: From DSD To HSBC – Hong Kong’s shortsighted & unrealistic climate plans will leave key assets & infrastructure exposed that mean the government, companies, investors and the public are even more exposed. China Water Risk’s Dharisha Mirando & Debra Tan expand
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Dharisha Mirando
Author: Dharisha Mirando
Dharisha Mirando hails from the finance industry and joined CWR as she believes that climate and water factors are downplayed by the sector despite being significant investment risks. To tackle this, her ambition is to help build consensus, bridge the gap between finance and science, and engage with investors to incorporate these risks into their due diligence and portfolio management. This could in turn lead to innovative Green Finance instruments becoming more prevalent. She has already made strong headway as the lead author of a recently published report with Manulife Asset Management and the Asia Investor Group on Climate change, which highlights the imminent threats to Asian asset owners' portfolios from climate and water risks. Dharisha has also undertaken a number of speaking engagements on these pressing issues at investor and insurance conferences. Prior to joining CWR, Dharisha worked for a long-only public equities fund. She has also worked in the impact investment space in London and Singapore where she provided technical assistance to social enterprises, helped them raise equity investments, and managed a debt portfolio.
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