The meaning of a flood
Flood risk management has always been a challenge in the US. One of the main reasons has been the shortage of effective tools to help the insurance industry understand, price, and transfer the risk. In fact, even defining what constitutes a flood event in reinsurance contracts has presented challenges.
The ambiguities that surround event definition have prompted the insurance industry to manage flood risk using methods that are dissociated with the physical properties and processes of the peril. But this may be about to change.
The issue
As with other natural hazards, flood insurance cover is applied based on individual flood occurrences. In the case of inland flooding, however, it can be extremely difficult to attribute losses to a particular occurrence. Unlike damage from hurricanes, earthquakes, and severe thunderstorms, which typically can be linked to a single causative event that lasts from seconds to days at most, the cause of flooding and flood damage is not always clear.
“The AIR model can help establish a common currency for understanding and quantifying risk in flood insurance and reinsurance transactions.”
The main culprit is precipitation (often combined with snowmelt), but the process of determining which low-pressure systems triggered a flood is no trivial task. Large areas containing multiple river basins often flood in sequence as the rivers are affected by any number of storms that may occur over the course of a month or more. A storm that saturates the ground may or may not be the same one that causes a river to burst its banks, and whether a flood occurs depends on many variables, including soil type, antecedent soil conditions, drainage conditions, land use and land cover, and flood defences.
For inland floods in the contiguous US, many reinsurance contracts include an hours clause, which specifies a limited time period (often 168 hours, or one week) during which insurers can aggregate claims for a flood recovery. While hours clauses provide some flexibility to insured parties (who can select the time at which to commence the claim period), they can be prone to misinterpretation and inconsistencies in their application.
They also provide little insight into the actual underlying flood risk, which could help the industry manage losses from future floods. Furthermore, in some policies, any flooding that occurs within the same time window can be aggregated into one occurrence—even if it clearly involves separate weather systems on either side of the country.
A new approach to flood event definition
To address this issue, AIR’s just-released fully probabilistic inland flood model for the US takes a new approach to flood event definition. Based on continuous simulation of the atmosphere, excess river flows are ‘clustered’ into modelled flood events that conform to the 168 hours clause. The algorithm is based on a hierarchical clustering process.
Each registered extreme river flow is initially considered an individual event. An iterative process allows the clusters to expand as individual extreme occurrences are aggregated according to their spatial and temporal proximity. This continues until certain criteria are met concerning cluster size, while simultaneously considering separation distance between each pair of excess flows—restricted to approximately 3,300 km—and the elapsed time.
An example of two separate flood events is illustrated in Figure 1. Both events last four days (96 hours), and they each have multiple flood extents that are within 3,300 km of one another. The only flood occurrence on Day 1 is Event 1 (green) while Event 2 (blue) starts on Day 2. Event 2 intensifies on Days 2 and 3 as Event 1 moves eastward and begins to subside. By Day 5, only Event 2 is still occurring. The separation in space and time defines these as separate simulated events and also accommodates their different intensities, which strengthen and ebb on different days.
Game-changing market opportunities
The lack of a commonly understood means to assess inland flood risk in the US is one contributing factor to the limited private market participation in bearing flood risk. Re/insurers need a more detailed and robust understanding of the location, frequency, and severity of flooding, and this starts with an objective definition of what constitutes a flood event.
The hours clause commonly in use falls short by many measures: its time span of 168 hours does not adequately reflect the reality of flood duration across the US; its application is open to inconsistency and misinterpretation; and the counterparties may not have an agreed upon understanding of what constitutes one event.
By simulating flood events on both a temporal and a spatial basis, the AIR Inland Flood Model for the US offers an objective starting point for defining—and perhaps redefining—flood events as understood by the industry. And because AIR’s flood event definition is the result of a robust, scientifically sound process, it can be adapted to different time durations as the industry evolves its approach to managing flood risk.
The AIR model can help establish a common currency for understanding and quantifying risk in flood insurance and reinsurance transactions, which can reveal new business opportunities in what has traditionally been a limited market for private flood insurance.
Dr. Boyko Dodov is assistant vice president and director of flood modelling at catastrophe modelling firm AIR Worldwide. He can be contacted at: bdodov@air-worldwide.com
