Small quakes, big impact: lessons learned from Christchurch Could a small aftershock in a city not considered an earthquake hotspot trigger one of the largest insurance losses ever? Absolutely, because this is exactly what happened when a 6.3 magnitude earthquake hit Christchurch, New Zealand, on 22 February 2011. The massive – and unexpected – insurance costs exposed blind spots in current views of financial earthquake risk. And, in the aftermath of the event, both the claims and rebuilding process proved challenging. Given that a similar sized earthquake can occur virtually anywhere, it is vital that we learn from the Christchurch experience. Foreword Two noteworthy features of the This publication is a summary of their Christchurch events – compared to the conclusions and generally seeks to During 2010 to 2011, the world suffered others – were the high contribution of raise awareness of the possible a string of serious earthquakes. the insurance industry towards consequences of earthquakes in city These events were devastating both reconstruction costs and the fact that centres on insurance. in terms of the number of lives lost and the earthquakes affected a city which the destruction of property and was not known as a seismic hot spot. I wish you an enlightening read. infrastructure. I only need mention what happened in Haiti and Chile or later in These features prompted our experts Matthias Weber, Group Chief northeastern Japan and in Turkey. to identify reasons why insurers were Underwriting Officer, Swiss Re During this period, several damaging caught off guard by the scope and earthquakes also struck Christchurch, complexity of the claims process and New Zealand. Seismic events caused the spiralling claims costs as well as to economic losses of over USD 308 billion suggest ways of learning for the future. in these two years and earthquake- After all, other cities around the world insured claims for 2011 are likely to could face similar issues, especially if surpass USD 58 billion, a world record. they are not usually identified as earthquake hot spots. A small quake in the wrong place For the insurance sector, the cost from The chart below shows the rise of the can have a hefty price tag the Christchurch earthquake is currently total insurance loss estimates made by put at USD 17.2 billion for the February various vendors, brokers and reinsurers Before 2011, Christchurch was not a 2011 event and close to USD 25 billion over time for the February 2011 event. place one readily associated with a high for all three events combined (Swiss Re It shows that the current insurance loss earthquake risk. Unlike the capital Economic Research & Consulting). This estimate of USD 17.2 billion is more than Wellington, Christchurch does not sit cost far exceeded the initial, model- twice the upper end of the initial loss near New Zealand‘s main fault lines. It is based forecasts and took the insurance estimates provided by model vendor located on New Zealand‘s South Island, industry by surprise. Over the last companies, which ranged between has a population of 380 000 (total 50 years, the only higher earthquake- USD 1.5 and 8 billion. Part of this country population is 4.2 million) and related insurance losses globally have increase is due to the strengthening of consists of 99 500 houses, 30 000 flats been those from the 9.0 M event in the New Zealand Dollar (NZD) against and 38 000 businesses. Japan in 2011 (USD 37.7 billion indexed the USD since February 2011. However, to 2013) and the 6.7 M event in this only accounts for a 14% increase in Why then was the impact of a Northridge (California) in 1994 the USD-based insurance loss estimate. 6.3 magnitude (M) earthquake so (USD 22.9 billion indexed to 2013). devastating? Estimates for the total economic cost continue to rise. Current estimates stand at USD 21.5 billion for the February 2011 event, or USD 31.6 20 Estimated Insured Loss, USD billion billion if the 7.0 M September 2010 18 and 6.0 M June 2011 earthquakes are 16 also factored in. 14 12 10 8 6 Sources: 4 – AIR news alert, Feb. 23, 2011 2 – EQECAT CatWatch, Feb. 23, 2011 0 – Marsh, Comparing claims from 11 11 12 12 13 13 14 14 catastrophic earthquakes, Feb. 2014 10 20 20 20 20 20 20 1. 2.20 9.20 0. – RMS Cat Update, April 5, 2011 2.20 .1 .1 .1 .0 .0 .04. .06. .08. 27 – Swiss Re sigma 22 18 14 01 26 10 10 06.05. Publication date Swiss Re Small quakes, big impact 1 How come initial estimates were Such agents are to a large degree blind Liquefaction so far out? spots in the current earthquake models, despite their potential impact on The costs due to liquefaction are Why did initial estimates, which were earthquake risk assessments. They can substantial and all models by far based largely on earthquake model consequently act as claims inflators that underestimated the impact of this outputs, so significantly underestimate significantly increase the ultimate payout. phenomenon in Christchurch – both the the actual loss? Although New Zealand 2010 and the February 2011 events has one of the highest levels of And finally, in the case of residential resulted in widespread soil liquefaction. residential and commercial property claims, the specifics of the insurance Liquefaction risk significantly increases insurance penetration, the insurance policy wordings and the interactions of reconstruction costs and often causes sector was taken by surprise in several multiple policies on one claim further total losses to property. It occurs when areas. impacted the adverse loss development. soil substantially loses strength in response to earthquake tremors, causing Firstly, there was the sheer number of it to behave like a liquid. Severe structural claims: As Christchurch was not Aftershocks damage usually results if liquefaction considered an earthquake hotspot, occurs underneath a building or a claims processing procedures were The 22 February 2011 Christchurch highway. Additionally, it also tends to not set up to deal with the well over earthquake was, from a seismological damage underground infrastructure 400 000 claims across all events with point of view, an aftershock of the earlier such as water and sewage pipes. multiple claims lodged per property. For earthquake of 4 September 2010. instance, the Earthquake Commission Although weaker, the aftershock had In the February 2011 Christchurch of New Zealand (EQC) had to rapidly a far more devastating impact on event, entire neighborhoods were increase staff from 22 core members Christchurch than the earlier main exposed to liquefaction. Many property and 27 assessors in reserve before seismological event, mainly because it owners were not only faced with having the earthquakes, to over 1000 by struck so close to the central business to repair or rebuild their homes, but also February 2011. On certain days, district. It also created higher losses for with restoring the land itself. Liquefaction 13 000 assessments were handled the insurance industry. Although it was often also results in property flooding per day by 350 assessors (equating to well known that large earthquakes are because groundwater is squeezed out of 37 claims per assessor per day). As a followed by multiple aftershocks and the soil. Another outcome, especially for result, detailed assessments were not that this activity often persists for a few large buildings, is a phenomenon called possible. This left them susceptible for years, the New Zealand events are differential settlement. This is where challenge at a later point in time which testing the industry‘s assumption about certain parts of a building settle more prolonged the process and made it the scale of consecutive disasters in the than others during an earthquake, often more costly. Large numbers of claims same region. resulting in total loss because the adjustment experts, brought in building structure was compromised. internationally for a limited time, As aftershock sequences can easily subsequently handed over claims to trigger second event or stop-loss covers, different parties. The resulting lack of they are important to consider when continuity further complicated the assessing earthquake risk. This is claims process. Claims costs have also especially true for second event covers, increased because of protracted which only pay out if the policy is negotiations due to claims advocates affected by two or more loss events. who worked on a contingency basis. If aftershocks are neglected in the This tendency is seen in other regions underwriting process, the risk for claims as well. can be significantly underestimated. The same is true for stop-loss covers, which Secondly, so-called secondary loss trigger when the aggregate of all losses agents contributed significantly to the to a portfolio during the policy contract overall loss resulting from the February period exceed a certain deductible. For 2011 Christchurch earthquake. These these covers as well, the presence of included widespread liquefaction, slope aftershocks strongly increases the instabilities, continued aftershock chance of a payout to the policyholder. activity and the effect of widespread damage in the central business district. 2 Swiss Re Small quakes, big impact Liquefaction: not just an issue in Christchurch Soil liquefaction is not just an issue in Christchurch. In fact, many past Soil liquefaction can earthquakes such as the 1989 Loma Prieta earthquake affecting the San Francisco Bay Area have resulted in wreak awful damage significant property damage due to soil liquefaction. Many,