Academic journal article Journal of Real Estate Literature

Residential Property Insurance Risk by Location

Academic journal article Journal of Real Estate Literature

Residential Property Insurance Risk by Location

Article excerpt

(ProQuest: ... denotes formulae omitted.)

The purpose of this study is to examine recently available residential insurance data to determine any impacts on prices useful to the appraiser in the estimation of value. It follows a unique approach through the examination of a macro rate of return by location, as seen and analyzed by the insurance company. It is logical to presume that a company will examine risk by location prior to its decision to (1) enter or remain in this market, (2) insure this risk, and (3) establish the premium and discount numbers. In this project, I compute these macro risk levels for selected locations on the ocean, and those that are not.

I utilize a unique insurance data set recently made available by the Alabama insurance commissioner. Recent legislation requires property companies to annually report information on policies, premiums, and losses by ZIP Code. Although the data are lacking the absence of needed statistics on property characteristics, they do contain macro information that can be related to existing real estate data to illustrate trends.

Further, a potential homeowner contemplating a purchase in one of these locations needs to know about any difference in the rates of return. These differences would be excellent predictors of risk levels, which lead to differences in premiums.

This project is motivated by the owners of residential properties located near the Gulf Coast who have voiced significant concern in recent years over increases in insurance rates. Rate increases have occurred with an increase in discounts and even total cancellation of loyal long-time customers when the only reason appears to be a location tentatively labeled as high-risk. Cancellations along the Gulf Coast were a frequent occurrence in the months and years after Hurricane Katrina with little prior communication from the insurance company.

Rising rates and rising discounts have continued for reasons that are difficult to determine due to an absence of needed data. Any information on insurance coverage such as annual premium, wind, and other peril coverage, and the dollar premium and discount are not gathered and recorded by any party to the residential transaction. Participants to the closing do not record this information, and the typical closing agent and banker require only the guarantee by the insurance company confirming that a policy exists.

Further, the needed individual property characteristics such as types of windows, existence of shutters, roof type, age of roof, condition of roof, and roof repairs are known only to the insurance agent, and hopefully, the property owner. Even the local tax assessor does not gather these data to estimate a market and assessed value. Although this information is available from the insurance companies, the best research would acquire and use these data from another neutral source, which does not exist.

One use of projects such as this one is that estimates of risk by location using the best data available will provide needed information useful to additional companies to evaluate the macro risk in their portfolio and recognize that selected coastal locations are insurable at a profitable rate of return. The anticipated result is expected to be competition among an increasing number of new companies offering better rates, which will drive premiums and discounts down.

Although the focus of this project is not to determine whether price capitalization exists and estimate the amount, knowledge of the existence of risk levels by location will certainly provide a strong indicator to an analyst and potential investor to investigate further. Price capitalization, or change in the property price caused by an increase in expenses or an unforeseen event, is thought to exist only in the short run as the public will respond in the long run with demand or supply changes, which cause differences in rent or price levels to disappear as the market moves to equilibrium. …

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