Planet Home Lending’s Chris Joles: Climate Risk and Impending Alterations in Hazard Insurance and the Subsequent Impact on Mortgage Banking

Chris Joles

Planet Home Lending Senior Vice President of Enterprise and Credit Risk Christopher Joles analyzes and manages risks throughout the Planet Family of Companies, advising executive leaders in servicing, asset management and retail and correspondent originations.

The evolving landscape of climate risk and hazard insurance is poised to usher in substantial changes that promise to affect all stakeholders in the mortgage industry. The escalating and palpable impacts of climate change are reshaping various sectors, and mortgage banking is no exception. As climate change impacts become more pronounced, the mortgage sector is squarely in its crosshairs, prompting challenges for lenders, regulators, investors, business partners and homeowners.

Climate Change and MBS Dynamics

When considering the influence of climate change on the mortgage banking industry, it’s important to understand the role climate change plays in natural disasters. For example, rising ocean temperatures allow hurricanes to gather more force. Rising land temperatures cause more water to evaporate, increasing the risk of wildfires.

A recent Federal Housing Finance Agency meta study of the existing evidence illuminates the effect of natural disasters on climate change on mortgage-backed securities pool discount rates. The study found mortgage performance suffers after damaging climatic events, like hurricanes or wildfires. With the help of insurance payouts and disaster relief, delinquencies among the affected loans tend to revert to normal over time.

The study also suggests a correlation between energy efficiency ratings and price increases on single-family properties, although consensus on its translation to better mortgage performance is still elusive.

Insurance Challenges

While insurance claim payouts help homeowners recover from natural disasters, obtaining that coverage has become more problematic in recent years. Insurance providers face escalating uncertainty as frequency and the amount of payouts continue to escalate. Climate hazards and a rising tide of claims, complicating the ability to forecast losses, determine premiums, and underwrite policies effectively have focused in on a perfect storm of risk elevating factors.

“As a result of these pressures, insurers could increase households’ premiums, reduce coverage, or choose not to renew coverage for households in certain areas,” a recent U.S. Treasury report on climate change said. “Reduced availability of insurance can negatively affect household finances by increasing risk exposure, limiting asset protection, and hampering the ability to make financial plans for the future.”

As seen in Ft. Myers, Fla., rebuilding after a natural disaster can increase the value and number of properties within areas of relatively high natural disaster risk. Properties rebuilt to today’s building codes with high-end materials drive the cost of replacement from natural disasters even higher, placing more strain on insurance companies and already depleted state reserve funds.

The result can be starkly rising insurance premiums that are unaffordable for homeowners who purchased when insurance was less costly and more available. In some markets, the local media coverage is suggesting insurance woes have begun to influence real estate sales.

Impact on the Mortgage Industry

Homebuyers are not unaware of changing climate risks. A recent Zillow study found fires, floods and extreme weather are reshaping how people view climate risk and real estate. “A clear majority of people in each region of the United States consider at least one climate risk when shopping for a home,” the survey found. “A majority of today’s buyers are millennial and Gen Z shoppers, and they are more likely than other generations to consider a climate risk when deciding where to buy a home.” Agency economic guidance shows that there continues to be a steady state of cohort members that want to enter the market for homeownership. Insurance may prove to be a difficult obstacle to get around.

Insurance Policy & Credit Availability

Insurance availability is witnessing a retrenchment, with some insurers ceasing coverage in certain regions due to extreme weather patterns induced by climate change, while new entrants elect to enter those higher-risk markets.

And while East Coast hurricanes and West Coast wildfires appear often in the headlines, severe convective storms (thunderstorms with lighting, hail, tornadoes and derechos) losses in the middle of the United States cost insurers more than $50 billion in the first three quarters of 2023.

Retail-Level Lenders and Producers

The emerging climate-related risks harbor significant implications for retail-level lenders and producers. At least five large U.S. property insurers — including Allstate, American Family, Nationwide, Erie Insurance Group and Berkshire Hathaway — have told regulators that extreme weather patterns caused by climate change have led them to stop writing coverages in some regions, exclude protections from various weather events and raise monthly premiums and deductibles.

Risk Mitigation & Closing Times

The burgeoning frequency and severity of climatic events are draining insurance funds and elongating replenishment times. After disaster strikes, closings can be delayed until lenders work through a backlog of collateral repair validations and buyers wait for repairs to be completed. We could start to see this influence warehouse lines, as lenders choose what collateral they’re willing to accept in areas at high risk of disasters.

However, the escalating risks may also encourage homeowners to mitigate risk through property improvements. Those improvements make properties more resilient, but also can increase home values.

Risk, Pricing & State Level Concerns

The intersection of risk and pricing is currently at a crossroads, with state-level concerns surfacing prominently in places like California. The increasing desire to inhabit risk-prone areas coupled with inflation costs are contributing to divergent goals between consumers and insurers. The anticipation of more limitations and exclusions on policies is palpable, with government solutions appearing as a last resort, burdening all payers.

A TRID Level Event: Disclosures & Policy Inclusions

The ensuing scenario can be likened to a TRID level event, in which disclosures and policy inclusions play a pivotal role. Helping borrowers understand insurance, from premiums, to exclusions, is crucial. With rates unlikely to decline, insurance premiums may become a proportionately larger share of homeowners’ monthly payments and the transparency that borrowers will need for their policies seems like a tangible outcome of an insurance moment of reckoning.

Conclusion: An Industry at the Crossroads

The mortgage industry is at a pivotal juncture, balancing between evolving climate risks and the necessary adjustments in hazard insurance. The implications for retail-level lenders and producers are multifaceted, encompassing areas like insurance policy renewals, credit availability, and closing times.

It is crucial for industry stakeholders to comprehend the ongoing shifts and respond proactively. As we lean more on government-backed solutions, a concerted, informed approach will be crucial to navigate this evolving landscape effectively.

The views and opinions expressed in this article are those of the author and do not necessarily reflect or represent the views, policy, or position of Planet Home Lending, LLC.

(Views expressed in this article do not necessarily reflect policies of the Mortgage Bankers Association, nor do they connote an MBA endorsement of a specific company, product or service. MBA NewsLink welcomes your submissions. Inquiries can be sent to Editor Michael Tucker or Editorial Manager Anneliese Mahoney.)