Catastrophe

In light of two severe back-to-back wildfi re seasons, insurers may have to re-evaluate how they view risks in California and are thus highly likely to adjust pricing

November 13, 2018

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Analytical Contact:Steven DeLosa, Oldwick+1 (908) 439-2200 Ext. 5969Steven.DeLosa@ambest.com

2018-169

California Wildfi re Losses Projected to Reach Record LevelsOn November 8, 2018, three different fi res erupted in California, two in the south (Hill and Woolsey) and one in the north (Camp). The Hill and Woolsey fi res have claimed more than 95,000 acres and damaged or destroyed an estimated 376 structures. The Camp fi re is now considered the deadliest wildfi re in the state’s history. As of this report, all three fi res were uncontained and continue to add to the historic number of acres burned and likely insurable losses in 2018, especially in the more expensive areas the Woolsey fi re is affecting in Southern California, where some 57,000 structures remain threatened.

In our August 8, 2018, briefi ng, Wildfi res: The New Normal?, we discussed the growing possibility that yearly devastating fi re seasons have become the new normal for California. Urbanization and growing population density in heavily wooded areas, as well as hotter, drier conditions resulting from rising temperatures and declining precipitation, are contributing to wildfi res becoming an increasingly frequent peril for insurers and citizens of California. As this year has progressed, so have the wildfi res that continue to engulf numerous areas of the state.

It’s too early to estimate the damages from the wildfi res, but A.M. Best expects that 2018 losses will be at record levels for California. The potential for historic losses was already likely before the Woolsey fi re ripped through the wealthier area of Malibu, which has a median home value of approximately $2.9 million. Also at risk are many commercial structures and locations in the area that are used in the fi lm and television industry. Many primary insurers limit their exposure to high-value properties and cede exposure outside of their tolerances to reinsurers.

The number of acres burned in 2018 is already nearly double the 2017 total. The last two years have each seen a greater number of fi res than the running fi ve-year average, and the total number of acres burned in 2018 so far is more than 2.5 times the fi ve-year average according to CAL FIRE (California Department of Forestry and Fire Protection). This widespread destruction will be the main reason for historic 2018 insured losses in California.

Insured losses stemming from the Northern California Carr wildfi re earlier this year could reach $2.0 billion. This wildfi re is already the seventh most destructive fi re to ever hit the state, according to the California Department of Forestry and Fire Protection. (The Tubbs fi re in October 2017 burned only 36,807 acres, but destroyed a record 5,463 structures.)

For homeowners and farmowners writers in California, direct losses incurred increased nearly four times in 2017, to $16.0 billion, compared to $4.2 billion in 2016 (Exhibit 1). Much of the increase can be attributed to the 2017 fi re season. The top 10 companies in terms of direct premiums written (DPW) accounted for 76.4% of market share in 2017, roughly in line with their 78.8% share of direct losses incurred. Roughly half the top ten companies had outsized losses compared to their market share, highlighting some geographic concentration and larger exposures to certain affected areas. Further, the 10 largest premium writers in California posted a direct loss & adjustment expense (LAE) ratio in 2017 that was on average 3.7 times higher than in 2016, in line with the industry as a whole (based on those that reported at least $1 million in direct losses incurred).

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In contrast, total dollar direct losses incurred for commercial property insurers roughly doubled in 2017, which still constitute only around 20% of the losses reported on the homeowners/farmowners lines (Exhibits 2 and 3). Similarly, the direct loss & LAE ratio on average doubled for those companies reporting direct losses incurred of at least $1 million. Commercial insurers will likely have significant exposures to the 2018 wildfires.

Despite a loss-affected 2017, most large writers in California are larger national companies that started 2018 with adequate risk-adjusted capital. The catastrophe events of 2018 will likely cause significant earnings volatility and could stress some balance sheets. Insurers have responded to a certain extent to the wildfires of 2017, but the lessons learned from the 2018 events will again call for re-evaluation of their underwriting and risk management strategies. Additionally, the risk-scoring models insurers have been using to identify areas particularly exposed to wildfires and to better establish their risk appetite and tolerances will be severely tested. The new normal will also cause insurers to re-assess and re-price their California exposures, but they will have to contend with the regulatory pressures that accompany this highly publicized issue.

The wildfires in 2018 and 2017 demonstrate the essential role insurers play in the economy during catastrophes and underscore the need for prudence in capital and risk management. We will provide updates as insurers and reinsurers are able to assess the situation and generate more detailed loss estimates once the fires become more contained.

Exhibit 1Top 20 Most Destructive California Wildfires, as of September 5, 2018By Acreage Burned

Fire Name Date County Acres Structures Deaths1 Mendocino Complex Jul-18 Colusa County, Lake County, Mendocino

County & Glenn County459,123 280 1

2 Rush Aug-13 Tuolumne 271,911 CA / 43,666 NV

112 0

3 Thomas Dec-17 Ventura & Santa Barbara 281,893 1,063 24 Cedar Oct-03 San Diego 273,246 2,820 15

5 Rim Aug-13 Tuolumne 257,314 112 0

6 Zaca Jul-07 Santa Barbara 240,207 1 0

7 Carr Jul-18 Shasta County, Trinity County 229,651 1,604 78 Matilija Sep-32 Ventura 220,000 0 0

9 Witch Oct-07 San Diego 197,990 1,650 2

10 Klamath Theater Complex Jun-08 Siskiyou 192,038 0 2

11 Marble Cone Jul-77 Monterey 177,866 0 0

12 Laguna Sep-70 San Diego 175,425 382 5

13 Basin Complex Jun-08 Monterey 162,818 58 0

14 Day fire Sep-06 Ventura 162,702 11 0

15 Station Aug-09 Los Angeles 160,557 209 2

16 Rough Jul-15 Fresno 151,623 4 0

17 McNally Jul-02 Tulare 150,696 17 0

18 Stanislaus Complex Aug-87 Tuolumne 145,980 28 1

19 Big Bar Complex Aug-99 Trinity 140,948 0 0

20 Happy Camp Complex Aug-14 Siskiyou 134,056 6 0

Source: California Department of Forestry and Fire Protection

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($ millions)

Market 2017 Share of

CA Incurred Rank Company CA DPW Share (%) 2016 2017 Losses (%) 2016 20171 State Farm Group 1,376 17.1 812 3,965 24.8 64.6 307.3

2 Farmers Insurance Group 1,261 15.7 705 1,861 11.6 60.1 152.6

3 CSAA Insurance Group 520 6.5 227 1,279 8.0 50.0 265.6

4 Auto Club Enterprises Insurance Group 499 6.2 257 363 2.3 63.1 83.5

5 Liberty Mutual Insurance Companies 492 6.1 254 1,073 6.7 63.0 238.1

6 Allstate Insurance Group 484 6.0 253 661 4.1 54.2 155.2

7 Nationwide Group 448 5.6 216 1,570 9.8 60.7 378.2

8 USAA Group 392 4.9 205 790 4.9 62.4 222.5

9 Mercury General Group 387 4.8 213 358 2.2 73.3 111.1

10 Travelers Group 288 3.6 120 699 4.4 52.1 264.7

Total US P/C Industry 8,045 4,243 16,002 59.8 215.0

Source: A.M. Best data and research

US P/C Industry ‒ Top 10 California Homeowners/Farmowners Insurers by Direct Premiums Written

Direct Loss & LAE Ratio (%)

Direct Losses Incurred

Exhibit 2

Includes Homeowners' and Farmowners' DPW

($ millions)

Market 2017 Share of

CA Incurred Rank Company CA DPW Share (%) 2016 2017 Losses (%) 2016 20171 Farmers Insurance Group 672 16.3 285 442 12.6 43.3 72.9

2 Travelers Group 365 8.8 159 278 7.9 47.3 80.3

3 Liberty Mutual Insurance Companies 342 8.3 125 333 9.5 39.4 102.1

4 Nationwide Group 248 6.0 125 357 10.2 51.0 148.0

5 Chubb INA Group 234 5.7 89 150 4.3 39.6 65.1

6 State Farm Group 212 5.1 112 133 3.8 60.5 70.6

7 Hartford Insurance Group 161 3.9 73 129 3.7 53.5 89.5

8 American International Group 144 3.5 33 120 3.4 22.6 84.9

9 Tokio Marine US PC Group 123 3.0 40 103 2.9 35.4 89.2

10 Allianz of America Companies 113 2.7 21 77 2.2 17.6 76.3

Total US P/C Industry 4,134 1,756 3,503 46.6 91.9

Source: A.M. Best data and research

Exhibit 3US P/C Industry ‒ Top 10 California Commercial Property* Insurers by Direct Premiums WrittenIncludes Fire and Commercial Multi-peril (Non-Liability)

Direct Losses Incurred

Direct Loss & LAE Ratio (%)

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