LA fires may spark the end to cheap homeowners’ insurance in California

The Pacific Palisades area ravaged by wildfires in Los Angeles is one of the most expensive neighborhoods in the US, home to Hollywood A-Listers and multimillion dollar mansions.

And ahead of this week’s disaster, its insurance costs were among the most affordable in the country, according to a Reuters analysis of insurance and real estate industry data.

That may be about to change.

The scale of losses anticipated in the wildfires now ringing Los Angeles, as well as regulatory changes enacted late last year, could spell an end to relatively cheap homeowners’ insurance in areas like the Palisades that are at elevated risk for wildfires, four analysts told Reuters.

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“One sees relatively low premiums in high-risk markets in California, but that might be starting to change,” said Philip Mulder, a University of Wisconsin professor who studies the industry.

Measured against home values, insurance costs are cheaper in the Palisades than in 97% of postal codes, according to a Reuters analysis of a national database of price data collected by Mulder and University of Pennsylvania’s Wharton School professor Benjamin Keys as well as home-value data calculated by Zillow, a real-estate firm.

The fires raging around Los Angeles could be the most damaging in state history, officials say.

The flames have devoured thousands of homes and businesses from the Pacific Ocean beaches to hills north of Los Angeles, and as of Thursday morning were 0% contained.

At least five people have died, and initial estimates of the damage range from $10 billion to more than $50 billion.

The relatively low cost of insurance in the Pacific Palisades reflects the vagaries of a homeowners’ insurance market in the United States where prices can vary widely because of differing regulatory polices from state to state.

Consumer-friendly regulations in California have kept a lid on prices, even in high-risk areas, but have prompted many insurers to scale back coverage.

Sangmin Oh, a finance professor at Columbia Business School, and other researchers found that homeowners in more loosely regulated states effectively subsidize homeowners in states like California, where the industry has been more tightly regulated — despite higher levels of risk.

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Compared to home values, the average statewide premium in 2023 was the lowest among all 50 states, according to the Reuters analysis.

California’s high property values may make that insurance seem relatively cheap, but even on an absolute dollar basis the average annual premium of $2,200 was less than residents paid in 30 other states.

At least six fires have burned near Pacific Palisades since 1980, including a 2018 blaze that was the third-most expensive in California history.

First Street, a climate risk research firm, found that 95% of the homes in Pacific Palisades face a “major” risk of burning to the ground.

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Homeowners in Pacific Palisades paid a median insurance premium in 2023 of $5,450, according to the data compiled by Mulder and Keys.

That’s less than residents paid in Glencoe, Ill., an upscale suburb of Chicago where homes are two-thirds cheaper and the risk of wildfire is minimal.

It’s also less than residents paid in New Orleans’ Lower Ninth Ward, the poor and historically Black neighborhood submerged by floods waters during Hurricane Katrina in 2005 — even though the typical Ninth Ward home is worth less than 1/20th of the typical home in Pacific Palisades, according to Zillow.

Keeping up with extreme weather

The insurance industry in the US has struggled to keep pace with extreme weather events in recent years, with more than two dozen billion-dollar wildfires, floods and other climate-related disasters in 2023 alone.

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In hurricane-prone areas of Louisiana and Florida, insurance prices more than doubled after hurricanes in 2020, 2021 and 2022 threw state markets into turmoil, Keys and Mulder found.

In California, regulators until recently mandated price controls for home insurance, which limited annual increases.

However, insurers fled the state as they struggled to turn a profit.

According to state regulators, 7 of the 12 largest insurers have paused or restricted new business since 2022.

Insurance companies dropped 1.72% of Californian homeowners’ policies in 2023, according to a December report by the US Senate Budget Committee.

Only three other states — Florida, Louisiana and North Carolina — had a higher nonrenewal rate.

Dropped by their insurance companies, Californian homeowners increasingly turned to a state-run pool that provides bare-bones policies for those who can’t find coverage elsewhere.

Some 450,000 homes — about 3% of all state residents — were covered through the California Fair Access to Insurance Requirements plan in September, a 40% increase from a year earlier.

The fund is administered by the state but funded by insurance providers.

In Pacific Palisades, 1,430 homes were on the state plan, up 85% from the year earlier.

The state pool now covers $5.9 billion worth of property in the area.

The increasing difficulty of finding insurance coverage prompted state regulators to reassess their approach.

The state’s insurance commissioner, Ricardo Lara, announced an overhaul in December that will make it easier for insurers to raise rates and factor in climate risks and reinsurance costs when setting prices, but would also require them to offer coverage in high-risk areas.

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The new rules take effect this month.

Patrick Douville, a vice president of insurance with Morningstar, said insurers will try to continue to offer coverage in California, which is one of the most lucrative markets in the country.

But they will struggle to provide affordable coverage in areas like Pacific Palisades that will remain risky even after this fire dies out.

“Insurers need randomness,” he said in an interview. “If it’s always the same folks who are targeted, you need to charge them an astronomical premium.”