Risk Modeling for the Future

The World Economic Forum (WEF) has celebrated its 50th year at its annual meeting in Davos. Increasingly the business/political nexus has become that articulated in WEF founder Klaus Schwab’s Davos Manifesto, that corporations “… must assume the role of a trustee of the material universe for future generations.”

In 2020, “action on climate change” has now become the number one risk in terms of impact in the World Economic Forum’s Global Risk Report. The work at RMS on quantifying risk and exploring how risk is expected to shift under climate change has never been more important or timely.

RMS CEO Karen White caught up with Sarah Lockett, Davos correspondent for TBD Media, for an interview to consider the growing role of risk modeling.

Physical risk is growing. In the last ten years, natural catastrophe losses averaged $210 billion per year, with only an average of $68 billion insured, leaving a gap of more than $130 billion of uncovered loss. Fueled by rapid increases in exposure, losses in 2017 and 2018 alone, dominated by hurricanes and wildfires in North America, accounted for 20 percent of the loss total over the last 30 years.

Economic growth remains tilted towards areas subject to elevated risk. In California, nearly 40 percent live in high wildfire risk areas and in just three “at risk” counties there are 250,000 homes valued at $1 million or more. More than one in five homes in California are subject to severe earthquake risk. And it is the economy that is also at risk: the top ten Bay Area tech companies alone have a market capitalization of $4.6 trillion, with the potential for significant disruption after a major earthquake.

Losses from business interruption have grown significantly in the last decade. As Warren Buffett mused in his 2019 annual letter, “… the Big One may … be a total surprise involving, say, a cyber attack having disastrous consequences beyond anything insurers now contemplate.”

However, it is in countries too poor to apply building codes, flood walls or planning controls, where the future losses will be most concentrated. 

We are seeing promises of action on greenhouse gas emissions catalyzed by the experience of unprecedented physical impacts: like the wildfires in California and Australia. Inspired by consumers, employees and investors, net zero carbon emission is taking hold as a corporate mandate, being seen as good business. 

Future physical impacts of climate change are already starting to impact investment decisions, as articulated in a letter from Larry Fink, CEO of BlackRock to fellow CEOs:

“Will cities, for example, be able to afford their infrastructure needs as climate risk reshapes the market for municipal bonds? What will happen to the 30-year mortgage – a key building block of finance – if lenders can’t estimate the impact of climate risk over such a long timeline, and if there is no viable market for flood or fire insurance in impacted areas?”

In the next 25 years, an estimated $68 trillion in assets will change hands, with a renewed generational focus on driving sustainability. Risk modeling for the future is expanding its remit, beyond insurance, towards serving investors, governments (and regulators), CEOs, and citizens, all looking to understand and chart a path through the climate-modified future.