Understanding and Mitigating Natural Hazard Risks: A Comprehensive Guide for Investors
The increasing frequency, severity, and cost of natural disasters, ranging from hurricanes to earthquakes to droughts, necessitate a deeper understanding of physical risks at the local level for investors to evaluate potential financial impacts. This is the objective of a partnership between AB and the Columbia Climate School.
In an effort to comprehend the physical risks posed by natural hazards, the National Center for Disaster Preparedness at the Columbia Climate School developed a Natural Hazards Index in 2016. This comprehensive evaluation of natural hazard exposures across U.S. states and counties aimed to aid U.S. households, communities, and professionals in public health and emergency management in their preparations for natural disasters.
In the early part of 2023, AB collaborated with Columbia to enhance this index to version 2.0. This updated version can generate an intricate interactive map that displays natural hazard exposures across the U.S. It has the capability to delve into any of the 73,057 census tracts that make up the 3,143 U.S. counties.
The Natural Hazards Index records the occurrence and intensity of 14 distinct natural hazards, including but not limited to coastal floods, damaging winds, droughts, earthquakes, extreme heat, floods, hail, hurricanes, landslides, tornadoes, tsunamis, volcanoes, wildfires, and winter storms.
The index utilizes a broad spectrum of data from four distinct categories: historical data derived from past events; probabilistic or predictive data that offer a certain percentage likelihood of a result; deterministic data that indicate an anticipated outcome given a set of conditions; and a model data set that employs multiple explanatory variables to approximate chosen outcomes. This data is updated on a continual basis.
The outcome is a non-ranked, cumulative index with individual hazard scores ranging from one (indicating very low risk) to five (indicating very high risk). In areas where multiple hazards are present, the cumulative hazard scores can reach as high as 42. This index has significantly contributed to the understanding of evolving physical risks to individuals and properties and has been instrumental in aiding the work of first responders.
However, the Natural Hazard Index is not a risk index; it does not provide estimates of damage or loss, or the potential impact on the population. Nevertheless, it lays a solid groundwork for this subsequent step.
Three Crucial Elements That Can Escalate a Hazard into a Catastrophe
Investors need to evaluate three essential elements that can either lessen or amplify the damage, thereby transforming a hazard into a catastrophe.
The first element is exposure: How proximate is the location to the hazard? Is it situated in a flood-prone area? Is it encircled by a forest that is susceptible to fires due to extended and drier summers? Is it in a region that is frequently hit by hurricanes? The second element is vulnerability. A hazard might be in close proximity, but preventive measures can alleviate its impact. For instance, the use of wind-resistant materials in construction can reduce storm damage. The final element is capacity— the capability to manage the hazard. When a disaster occurs, are the inhabitants capable of evacuating? Do they have access to a vehicle and a safe destination?
In the end, the risk from a natural hazard is determined by the intersection of the natural hazard and these risk factors—exposure, vulnerability, and capacity.
Comprehending the Financial Consequences of Physical Hazards
To create a surrogate for these three risk factors, we examined 30 years of financial cost data from sources like the National Oceanic and Atmospheric Administration, the US Geological Survey, the University of Oregon, and other institutions that have gathered data on the expenses of cleanup and mitigation after major threats.
Using this extensive data as a foundation, we developed a quantitative risk tool—the Physical Hazard Investment Risk (PHIR) indicator—that rates the total hazard investment risk of US census tracts and counties, ranked from zero (lowest) to 10 (highest), and visualized on a map (Display) that emphasizes areas with the most financially significant risk exposure.
Applying the Physical Hazard Investment Risk Indicator
Several hazards are more expensive than others: hurricanes, severe storms, droughts, and floods. When a location is exposed to more than one of these and has high vulnerability and low capacity, the impact can be substantial. For instance, the US Gulf Coast, which faces a combination of the most destructive natural hazards—hurricanes, floods, and coastal flooding (intensified by sea-level rise)—has limited capacity to mitigate them.
In contrast, the US Midwest has low PHIR scores, although there are numerous exceptions. As the PHIR tool can delve down to the census tract level, it can pinpoint pockets of risk that other analytics might overlook.
PHIR scores are especially pertinent for investors in residential mortgage-backed securities and US municipal bonds. Fixed structures like homes, schools, hospitals, power plants, and airports are all tied to specific locations, and thus are exposed to the natural hazards in their vicinity. The tool can assist in identifying securities where natural hazard risks are potentially undervalued by the market and should be factored into bond valuations.
In a rapidly changing climate where natural hazards are increasingly significant, both the Natural Hazards Index and the PHIR indicator that builds on it can be invaluable tools for investors, offering a deeper comprehension of these substantial risks.
In an effort to comprehend the physical risks posed by natural hazards, the National Center for Disaster Preparedness at the Columbia Climate School developed a Natural Hazards Index in 2016. This comprehensive evaluation of natural hazard exposures across U.S. states and counties aimed to aid U.S. households, communities, and professionals in public health and emergency management in their preparations for natural disasters.
In the early part of 2023, AB collaborated with Columbia to enhance this index to version 2.0. This updated version can generate an intricate interactive map that displays natural hazard exposures across the U.S. It has the capability to delve into any of the 73,057 census tracts that make up the 3,143 U.S. counties.
The Natural Hazards Index records the occurrence and intensity of 14 distinct natural hazards, including but not limited to coastal floods, damaging winds, droughts, earthquakes, extreme heat, floods, hail, hurricanes, landslides, tornadoes, tsunamis, volcanoes, wildfires, and winter storms.
The index utilizes a broad spectrum of data from four distinct categories: historical data derived from past events; probabilistic or predictive data that offer a certain percentage likelihood of a result; deterministic data that indicate an anticipated outcome given a set of conditions; and a model data set that employs multiple explanatory variables to approximate chosen outcomes. This data is updated on a continual basis.
The outcome is a non-ranked, cumulative index with individual hazard scores ranging from one (indicating very low risk) to five (indicating very high risk). In areas where multiple hazards are present, the cumulative hazard scores can reach as high as 42. This index has significantly contributed to the understanding of evolving physical risks to individuals and properties and has been instrumental in aiding the work of first responders.
However, the Natural Hazard Index is not a risk index; it does not provide estimates of damage or loss, or the potential impact on the population. Nevertheless, it lays a solid groundwork for this subsequent step.
Three Crucial Elements That Can Escalate a Hazard into a Catastrophe
Investors need to evaluate three essential elements that can either lessen or amplify the damage, thereby transforming a hazard into a catastrophe.
The first element is exposure: How proximate is the location to the hazard? Is it situated in a flood-prone area? Is it encircled by a forest that is susceptible to fires due to extended and drier summers? Is it in a region that is frequently hit by hurricanes? The second element is vulnerability. A hazard might be in close proximity, but preventive measures can alleviate its impact. For instance, the use of wind-resistant materials in construction can reduce storm damage. The final element is capacity— the capability to manage the hazard. When a disaster occurs, are the inhabitants capable of evacuating? Do they have access to a vehicle and a safe destination?
In the end, the risk from a natural hazard is determined by the intersection of the natural hazard and these risk factors—exposure, vulnerability, and capacity.
Comprehending the Financial Consequences of Physical Hazards
To create a surrogate for these three risk factors, we examined 30 years of financial cost data from sources like the National Oceanic and Atmospheric Administration, the US Geological Survey, the University of Oregon, and other institutions that have gathered data on the expenses of cleanup and mitigation after major threats.
Using this extensive data as a foundation, we developed a quantitative risk tool—the Physical Hazard Investment Risk (PHIR) indicator—that rates the total hazard investment risk of US census tracts and counties, ranked from zero (lowest) to 10 (highest), and visualized on a map (Display) that emphasizes areas with the most financially significant risk exposure.
Applying the Physical Hazard Investment Risk Indicator
Several hazards are more expensive than others: hurricanes, severe storms, droughts, and floods. When a location is exposed to more than one of these and has high vulnerability and low capacity, the impact can be substantial. For instance, the US Gulf Coast, which faces a combination of the most destructive natural hazards—hurricanes, floods, and coastal flooding (intensified by sea-level rise)—has limited capacity to mitigate them.
In contrast, the US Midwest has low PHIR scores, although there are numerous exceptions. As the PHIR tool can delve down to the census tract level, it can pinpoint pockets of risk that other analytics might overlook.
PHIR scores are especially pertinent for investors in residential mortgage-backed securities and US municipal bonds. Fixed structures like homes, schools, hospitals, power plants, and airports are all tied to specific locations, and thus are exposed to the natural hazards in their vicinity. The tool can assist in identifying securities where natural hazard risks are potentially undervalued by the market and should be factored into bond valuations.
In a rapidly changing climate where natural hazards are increasingly significant, both the Natural Hazards Index and the PHIR indicator that builds on it can be invaluable tools for investors, offering a deeper comprehension of these substantial risks.
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