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Reinsurance, Hurricanes and Climate Change – Reinsurance Series Part 3 of 3

calendar_today August 13, 2019

In the prior two pieces in this series we discuss the history of the reinsurance industry and the current dynamics in the market regarding premium levels.  The key benefit that reinsurance brings in portfolio construction is the ability for the strategy to deliver equity-like returns without correlation to the markets.  While investors value this characteristic, one of the biggest concerns advisors express is the impact of climate change on the strategy going forward.

The reinsurance industry losses in 2017 and 2018 only exacerbated the fear of a ‘climate change-induced new normal’ in terms of the number of hurricanes and catastrophic events each year.  Nnumerous academic studies have been conducted to address the impact of climate change on hurricane formation.  Many factors go into hurricane formation including the sea temperature, wind shear levels, air temperatures, and the amount of moisture in the air.  The primary conclusion from the academic studies around hurricane formation is that existing data fails to identify any trend towards an increase in frequency of hurricane formation.  The number of storms is highly variable each year and in fact, going back and looking at hurricanes that have made landfall in the US since 1900, the trend line is actually decreasing (source Geophysical Fluid Dynamics Laboratory, “Global Warming and Hurricanes”)

What can be determined with more confidence is that rainfall levels will pick up due to more moisture in the air over time.  At this time, however, there is no statistical evidence that climate change will lead to an increase in the frequency of these storms.  Also, the increase in other insurance loss events such as wildfires are the result of population expansion more than anything else.

While climate change is concerning, the losses incurred by the reinsurance industry in 2017 and 2018 can be attributed to a normalization of hurricane events after a relatively quiet period in the preceding eight years.  The recent dislocation in the space has offered a compelling entry point where premiums are overcompensating for the losses of the past two years.  Investors should take advantage of the current market premiums and uncorrelated return streams that reinsurance provides.

For more information on reinsurance and other alternative investment strategies, please contact me.

Frank Burke, CFA, CAIA
Chief Investment Strategist, PPB Capital Partners
484.278.4017 Ext. 108

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