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Last summer’s Alberta floods were the costliest natural disaster in Canada’s histry, with $1.7-billion in insured damages.Jeff McIntosh/The Canadian Press

The insurance industry is struggling to come to grips with how to measure the risk posed by devastating water damage.

The standard methods of calculating property insurance rates based on historical claims may no longer be reliable because of rapid changes in climate, deteriorating infrastructure and changes in living patterns, according to the Canadian Institute of Actuaries (CIA) and KPMG LLP.

Water damage from water main breaks, appliance overflows and sewage backup has overtaken fire in recent years as the most costly source of claims in the property and casualty (P&C) insurance industry. Some companies report that their average cost of water damage claims has more than doubled in the decade to 2012, the CIA noted.

Actuaries, who use statistics to analyze risk and calculate premiums, are finding it a challenge to keep up with the developments.

"We're always going to look at historical experience … But the environment is changing and the uncertainty makes it harder to only look at what has happened in the past to determine what will happen in the future," said Marc-Olivier Faulkner, chairman of the P&C research committee at the CIA.

"We need to combine different models," he said. That could include adding more data about the local environment and implementing new software and improved IT systems that can analyze more complex data.

Pricing the risk of water damage too low poses a threat to insurance company profits and capital, the CIA says. The report warns that mispricing the products could make it harder for homes and businesses to obtain coverage.

Flooding is top of mind following last summer's Alberta storm, which became Canada's costliest natural disaster on record with $1.7-billion in insured damages, according to the Insurance Bureau of Canada. Just four years ago, the organization estimated that all Canadian water damage claims hover around $1.7-billion annually.

Water damage was also a major factor in pushing property and casualty insurers to record claims payouts of $3.2-billion in 2013.

But climate patterns are only part of the problem with assessing risk today.

"Research suggests that a good deal of Canadian infrastructure is beyond its design life and capacity," said Jacques Lafrance, president of the CIA, in a statement. Older infrastructure and issues related to poor quality new construction contribute to higher payouts.

The increase in finished basements and condominium dwellings, where leaks can damage other units, has also contributed to the rise in claims.

Some insurers are already diversifying their claims processes to account for the changes, said Pierre Fromentin, vice-president of actuarial services and insurance solutions at Desjardins Group.

In the past five to 10 years, Desjardins has gone from basing its pricing on the total claims and losses paid by the insurance company, to pricing out different peril risks separately for each policy – from water damage to fire to liability claims.

The process involved accumulating more data, using new pricing algorithms and renegotiating pricing with customers. "Houses that before we thought were a good deal, when we took that more precise approach, significantly changed … some prices were higher, others were much lower," said Mr. Fromentin. Some companies have yet to make these changes and are under pressure to adapt quickly, he said.

There's still more that can be done, Mr. Fromentin said adding that "water damage is a major concern." Desjardins has made recent changes to the pricing and underwriting of water damage risk.

Mr. Fromentin said the industry is discussing how to provide better flood insurance products at a price that is both affordable to clients and profitable for the industry. Having accurate climate projections and other data will be especially important in the future.

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