How Are Insurance Markets Adapting to Climate Change? Risk Selection and Regulation in the Market for Homeowners Insurance

As climate risk escalates, property insurance is critical to reduce the risk exposure of households and firms and to aid recovery when disasters strike. To perform these functions efficiently, insurers need to access high quality information about disaster risk and set prices that accurately reflect the costs of insuring this risk. We use proprietary data on parcel-level wildfire risk, together with insurance premiums derived from insurers' regulatory filings, to investigate how insurance is priced and provided in a large market for homeowners insurance. We document striking variation in insurers' risk pricing strategies. Firms that rely on coarser measures of wildfire risk charge relatively high prices in high-risk market segments -- or choose not to serve these areas at all. Empirical results are consistent with a winner's curse, where firms with less granular pricing strategies face higher expected losses. A theoretical model of a market for natural hazard insurance that incorporates both price regulation and asymmetric information across insurers helps rationalize the empirical patterns we document. Our results highlight the underappreciated importance of the winner's curse as a driver of high prices and limited participation in insurance markets for large, hard-to-model risks.