The commercial real estate industry is grappling with the escalating cost of property insurance, driven by a combination of scarce reinsurance, persistent inflation, regulatory restrictions, and a spike in weather-related claims. These rising costs are impacting net operating incomes, commercial property valuations, and even transaction viability for investors.
The Urban Land Institute (ULI) and Heitman, a global real estate investment management firm, have released a new report, Insurance on the Rise: Climate Risk and Real Estate Investment Decisions, which outlines strategies to tackle these mounting challenges. For investors, navigating the complex landscape of higher premiums and reduced availability will require a combination of creative insurance approaches and a forward-looking investment strategy that mitigates climate risk.
Why Rising Insurance Costs Are Shaking Up Commercial Real Estate
Increased insurance premiums are having ripple effects across the commercial real estate market. Property owners are seeing their net operating incomes eroded by escalating coverage costs, while some are facing challenges securing financing, with lenders now placing stringent insurance requirements on loans. This has also led to stalled property transactions and lower asset valuations, putting pressure on stakeholders to re-evaluate risk management practices.
“Rising insurance costs are a significant factor impacting liquidity in the commercial real estate market,” explained Laura Craft, Global Head of Portfolio Sustainability Strategies at Heitman. As insurers work to limit exposure by adjusting pricing, investors are taking on more financial risk upfront. Craft emphasized the importance of strategic adaptation, noting that the ULI-Heitman report provides actionable insights for stakeholders to maintain portfolio resilience in these uncertain times.
Two-Pronged Approach: Creative Coverage and Strategic Risk Management
To adapt to rising insurance costs, ULI and Heitman recommend a two-pronged strategy that combines creative insurance solutions with risk-aware investment decisions:
- Creative insurance solutions: Property owners should consider diversifying their insurance portfolio by piecing together coverage from multiple carriers, opting for higher deductibles, or exploring non-traditional options like self-insurance or captives. Additionally, parametric insurance and surplus lines coverage are being utilized as alternative ways to secure protection in the face of traditional market constraints.
- Risk-aware investment strategies: Investors need to think beyond simply purchasing coverage. Instead, they should focus on managing their portfolio’s exposure to physical climate risks, enhancing the resilience of individual assets, and strategically diversifying holdings. This approach includes considering the location, construction type, and asset scale to make a property more attractive to insurers.
Emerging Trends to Watch: Insurance, Migration, and Climate Risk
The report also discusses potential spillover effects from the single-family residential insurance market. With homeowners facing rising costs and limited coverage availability, commercial real estate stakeholders need to watch for changes in migration patterns that could affect demand. The “insurance protection gap” — where properties are left partially or completely uninsured — and concerns around the solvency of government-backed insurance programs are growing issues that may influence market viability and investment decisions.
“As extreme weather events become more frequent and intense, relying solely on property insurance as a risk reduction strategy is insufficient,” said Lindsay Brugger, Vice President of Urban Resilience at ULI. “Proactive climate risk management must be integrated into real estate investment to ensure resilience in the face of these challenges.”
Looking Forward: Navigating the Insurance Landscape
For commercial real estate investors, the escalating costs of property insurance are here to stay. Adopting innovative coverage tactics and integrating climate risk management into investment strategies can help keep properties insurable and profitable, despite the challenges. As the insurance market continues to evolve, staying ahead of the curve by adapting to these emerging trends will be key to maintaining competitiveness and resilience in the commercial real estate sector.
For more insights on managing climate risk and property insurance in commercial real estate, explore ULI and Heitman’s full series of research reports on the intersection of climate risk and real estate.