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Cars speeding through an intersection flooded with water during a high tide.
High tide flooding on West Avenue in Miami in 2008. A new set of papers published by the San Francisco Federal Reserve delivered a “dire” warning about the dangers of climate change.

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How climate change creates a ‘new abnormal’ for the real estate market

A report from the San Francisco Federal Reserve underscores how climate shifts create big investment and economic risks

The publication page for the San Francisco Federal Reserve, part of the nation’s central banking system, isn’t known for light reading. Recent research papers, such as “Yield Curve Responses to Introducing Negative Policy Rates” or “Precautionary Pricing: The Disinflationary Effects of ELB Risk,” aren’t exactly meant to go viral.

But a new set of papers around climate change should gain an audience beyond academic and economic circles. Titled “Strategies to Address Climate Change Risk in Low- and Moderate-income Communities,” this collection of 18 articles by academics and experts collectively offers “one of the most specific and dire accountings of the dangers posed to businesses and communities in the United States,” according to the New York Times.

Other central banks and bankers are taking notice of climate change as well; Since 2017, 46 central banks and regulators have joined the Network for Greening the Financial System, according to the Financial Times, including representatives from China, France, and the United Kingdom. The World Economic Forum’s 2019 Global Risk Report listed three risks of climate change—extreme weather events, failure of climate change mitigation and adaptation, and natural disasters—as both the most immediate and most damaging.

These risks will also affect real estate investments and the operations of the real estate industry, which, despite increasingly grave reports about the impact of climate change on land use and sea levels, has not taken the policy steps and process reviews necessary to deal with the coming challenges.

“We’re at a tipping point with the financial community beginning to use this kind of climate risk data,” says Katie Walsh, who runs the cities program for CDP, a company that specializes in measuring climate change risks for corporations and cities. “There are already municipal bond investors making decisions on 50- or 100-year planning based on climate risk and climate management. It’s more concerning for an investor if cities and governments don’t understand the issues. If there’s no recognition, it’s concerning.”

Palm trees strain against the winds of a serious storm as the water ripples in the street in front of a row of homes with Spanish-style roofs.
A flooded street after catastrophic Hurricane Irma hit Fort Lauderdale, Florida.

Realigning real estate and banking for “the new abnormal”

Business leaders need “to take a leadership role in preparing vulnerable regions most at risk for a ‘new abnormal,’” according to the intro of the new Fed report. That includes mitigation strategies for sea-level rise, increased storm surges, and inland flooding, and, perhaps more importantly in a nation with a significant population of climate-science skeptics, a blunt and honest accounting of the potential financial loss that may accrue due to the devaluation of coastal real estate.

The United States is woefully underprepared. And without significant investment in better standards, systems, policies, and tools, every day the market functions is a day when significant amounts of money are being invested without a full understanding of the risks. In a recent report on climate change and real estate, the Urban Land Institute stated that “this process will be painful for investors who are caught off guard, but those who are prepared have the potential to outperform.”

According to a 2018 report by the Union of Concerned Scientists, “Underwater: Rising Seas, Chronic Floods, and the Implications for U.S. Coastal Real Estate,” an estimated 300,000 residential and commercial properties will likely face chronic and disruptive flooding by 2045, threatening $135 billion in property damage and forcing 280,000 Americans to adapt or relocate. This long-term analysis of how increased flooding will depress coastal real estate noted, alarmingly, that most investors in and developers of coastal real estate do not factor these risks into current value projections. Worldwide, according to the International Monetary Fund, significant assets, including property, could be “stranded” due to climate change, a reference to being both physically inaccessible and financially drained of value.

The new research and analysis released by the San Francisco Fed says that not only are we in denial about the impact of climate change, but we remain unaware of how, when, and where it will be most pressing. Our systems for gauging flood risk are “too blunt and outdated to accurately measure flood risk and the impact of hazard mitigation investments,” according to a paper titled “Flood Risk and Structural Adaptation of Markets: An Outline for Action.”

Communities with highest potential flooding-related real estate losses

Name State Homes at risk Value at risk Property tax at risk Population currently housed in at-risk homes
Name State Homes at risk Value at risk Property tax at risk Population currently housed in at-risk homes
Miami Beach FL 12,095 $6,443,424,737 $91,013,636 15,482
Southampton NY 594 $3,632,414,659 $70,466,512 778
Ocean City NJ 7,251 $3,559,834,800 $31,992,269 4,061
Central Coast CA 2,652 $3,515,837,640 $38,029,502 5,887
San Jose CA 2,574 $2,587,275,046 $29,536,278 7,104
San Mateo CA 3,825 $2,126,449,685 $28,542,062 9,716
Miami FL 5,718 $2,115,800,018 $37,261,591 13,037
Long Beach NJ 2,912 $2,027,390,300 $19,946,350 961
Upper Keys FL 3,514 $1,838,699,914 $16,273,796 3,865
Bradenton FL 4,368 $1,837,661,024 $21,225,539 7,600
Key West FL 3,709 $1,675,527,450 $14,684,991 6,491
Hilton Head Island SC 2,716 $1,486,650,600 $13,196,567 3,042
Hempstead NY 4,571 $1,447,384,405 $41,899,956 13,302
Lower Keys FL 3,415 $1,398,112,163 $12,975,389 4,508
Avalon NJ 1,351 $1,339,607,500 $7,309,545 338
Charleston Central SC 1,629 $1,333,885,777 $11,476,441 2,883
Toms River NJ 3,648 $1,317,185,100 $29,650,131 7,551
Kiawah Island-Seabrook Island SC 1,562 $1,315,627,363 $13,056,057 937
Long Beach-Lakewood CA 1,938 $1,299,068,902 $15,610,079 5,136
West Palm Beach FL 771 $1,210,159,069 $17,281,943 1,365
Foley AL 3,422 $1,204,521,095 $5,378,103 3,833
Sea Isle City NJ 2,006 $1,192,216,600 $7,974,321 622
Queens NY 2,735 $1,177,852,265 $9,504,807 7,193
Beach Haven NJ 1,372 $1,091,621,100 $11,634,246 604
Nantucket MA 283 $1,008,239,000 $3,417,931 246
This 2018 chart reflects potential loses by 2045 Union of Concerned Scientists/Zillow

Investors tend to look at the Federal Emergency Management Agency’s (FEMA) flood insurance rate maps (FIRMs) to guide their decisions around purchasing flood insurance. But these maps are “outdated, locally politicized, and inaccurate,” according to the report, and “do not take into account climate change or other changing conditions, such as additional infrastructure on the ground.” Absent something new—and increasingly, startups are trying to fill that void of data—investors are stuck with “an outdated assessment tool which reflects a political negotiation and the state of technology of the 1970s and not the best available scientific knowledge today.”

Billions of dollars in property, including hundreds of thousands of homes, require mitigation assistance, accurate asset pricing, and most challenging of all, an honest reckoning about its true value in a world increasingly shifting due to climate change.

The flawed federal system for adapting to climate change

The current U.S. system for flood assistance and rebuilding after natural disasters such as hurricanes and river flooding involves a constellation of acronyms and programs, most notably the National Flood Insurance Program (NFIP), flood mapping from FEMA, and Community Development Block Grants-Disaster Recovery (CDBG-DR) from the Department of Housing and Urban Development (HUD). The Small Business Association also offers funds, and a recent change to federal law steers mitigation funding to at-risk areas before they’re hit by big storms.

These programs have collectively distributed billions of dollars to impacted areas across the U.S. over the last decade. In 2018 alone, the federal government sent a record-setting $28 billion worth of CDBG-DR funding to hard-hit areas around the country, and new mitigation programs received $16 billion, the first time such programs were supported by these grants.

However, as the Fed report’s take on the National Flood Insurance Program suggests, these programs are in dire need of updating. All are being reconsidered in the wake of an unprecedented string of floods and big storms—Harvey in Houston, Florence in the Carolinas, and Maria in Puerto Rico.

Currently, Congress is debating two proposals to update the NFIP and flood insurance—H.R. 3167, the National Flood Insurance Program Reauthorization Act of 2019, and a competing proposal co-sponsored by New Jersey Sen. Bob Menendez and Louisiana Sen. Bill Cassidy, the National Flood Insurance Program Reauthorization and Reform Act of 2019 (NFIP Re).

The troubled and overextended NFIP program—a 2019 Government Accounting Office report declared the program at high risk of default, with $20.5 billion in debt as of last September—was supposed to be reauthorized by September 30, 2019. But as part of a continuing resolution, Congress extended the deadline to November 21. It’s part of a pattern of pushing hard decisions and extending deadlines when it comes to flood insurance; since the government guarantees payouts, homeowners depend on it, and the issue can become tricky for representatives of coastal communities.

The Fed reports make it clear that delaying payments is not going to work anymore. The paper noted that in 2016 and 2017 alone, the nation experienced 10 floods causing over $1 billion in damage each. And while water damage itself will ruin many homes and businesses, the market may abandon areas with increasing flood risk before that happens. The Fed report suggests lenders may “blue-line” certain locations for unacceptable flood risk within the next 20 to 30 years, absent new approaches and policies to mitigate and manage risk.

That would cause a cascade of problems, identified by the Fed papers and other reports: existing home mortgages would go underwater without the ability to regain value; there may be a threat to the availability of the 30-year mortgage in various vulnerable and highly exposed areas; only those who can afford incredible insurance premiums will be able to purchase homes on the water; institutional investments in these areas could dry up; and cities could lose tax value and tax receipts, leading to a vicious circle of shrinking local services.

A row of homes on the Atlantic coast, with one under construction after water damage.
In a photo taken Thursday, October 27, 2016, construction workers labor on a beachfront home in Bay Head, New Jersey. Sandy damaged or destroyed virtually every one of the 521 homes in neighboring Mantoloking, New Jersey, including dozens that were swept clean off the map, some coming to rest in a bay or even atop a drawbridge.

How can banks and investors avoid a coastal real estate crash?

The recommendations in the papers released by the San Francisco Federal Reserve offer general guidance about altering policies around mortgages and property. First, they advocate for a standard, up-to-date metric for figuring out flood resiliency, taking into account the structural vulnerabilities and adaptive capacity of the buildings themselves, as well as up-to-date weather and climate information. The financial system can’t change policy or influence investment decisions around something it can’t accurately measure.

Once that’s done, major financial institutions can take a few other steps. First, popularize this new metric or metrics, and make it a standard risk-assessment tool for asset and portfolio management. Then, use these tools to better understand flood risk at the time of mortgage and loan origination, and adapt as conditions and data change. Finally, create new, adaptive loan and mortgage products that encourage smart, prudent, and long-term investments that increase overall resiliency.

Swift action by the financial markets is important because right now, the federal government is slow to respond. According to Amanda Devecka-Rinear, a founder of the New Jersey Organizing Project (NJOP), a citizen-led coalition of homeowners who lobbied for more federal aid for homeowners impacted by Hurricane Sandy, changes to flood policy come at a painfully slow pace, and many of the current proposals aren’t useful.

“I don’t think enough people understand how crucial this is, and understand what steps we need to take,” she says. “Many proposed changes are not helpful, so I’d rather have no change than the Waters Bill, because we get a chance to keep fighting for helpful changes.”

There have also been slowdowns in the disbursement of mitigation funds approved by Congress. In late August, Congress awarded $6.75 billion to states across the country, including Texas, Louisiana, Florida, North Carolina, South Carolina, West Virginia, California, Missouri, and Georgia, to help them prepare for future hurricanes and natural disasters. But that didn’t include billions of dollars appropriated for Puerto Rico and the United States Virgin Islands. Puerto Rico was initially supposed to receive more than $8 billion, money that would have, in part, helped rebuild and strengthen the island’s power grid. The money still hasn’t been dispersed, and during a House Appropriations Subcommittee on Housing and Urban Development hearing on the issue earlier this month, officials admitted to “knowingly failing to comply with the law.”

Real estate, as the saying goes, will always be a business of location. But as the climate change era marches on, without better information, investors won’t truly know what risks come with their investments.

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