Uncertainty about UK government spending on flood defenses means the industry-managed Flood Re program for pooling flood risk may face higher-than-expected claims in the future, according to Fitch Ratings.
In the long term this could push up buildings and contents insurance premiums for all UK households and, in the short term, could expose insurers to additional risk, Fitch warned.
Under new funding arrangements, future central government capital expenditure on flood defenses, which forms part of the joint understanding on which Flood Re is based, will remain below the 2010-2011 peak in real terms until at least 2020-2021. The level of funds provided through local investment, designed to offset some of the planned reduction, remains uncertain. Central government funds allocated for flood defence spending fell 6 percent in FY12-FY15 compared with the previous four years, representing a real-terms cut of around 20 percent, Fitch said.
A longer-term reduction in spending could increase the number of properties in England at significant risk of flooding. A study by the Committee on Climate Change estimated that spending would need to increase by around GBP20m a year on top of inflation through 2035 just to keep the number of significant-risk properties steady. This could mean that Flood Re’s funds and reinsurance cover may prove inadequate to meet outgoings, Fitch said. In that situation, insurers would be required to make up the difference in the near term, but would then pass on the cost to households through an increase in the annual premiums.
The Association of British Insurers’ latest claims estimate of GBP1.1bn from the 2013-2014 winter storms and floods is manageable for the sector, but would have been much higher if flooding had hit more highly populated areas, according to the ratings agency.
The recent storms are likely to increase the sector’s combined ratio by around 3.4 percentage points. The negative impact on insurers’ earnings will therefore be limited and will probably be further reduced by future price increases. However, Fitch said, it expects earnings in the non-life sector in general to remain under pressure. The underwriting performance of personal motor business is likely to rely increasingly on prior-year reserve releases, while the contribution to earnings from investment income remains subdued.
Flood Re is a not-for-profit reinsurance scheme owned and managed by the UK insurance industry that helps to provide flood insurance to households deemed to be at high flood risk. The scheme will be part-funded by a levy on all UK personal buildings and contents insurance policies, expected to be GBP10.50 per year. The scheme is expected to start operating in 2015 and last 20 to 25 years.