The impact of hurricane season on mortgages and the wider economy

Eva Marie Uzcategui/Bloomberg

Last month, Hurricane Ida has caused devastating floods around the U.S. More worryingly, several states have been hit that wouldn’t typically face this kind of environmental threat (Northeast states such as New York and New Jersey).

The worst flooding hit traditional floodplains in Louisiana, which has now become the first state to record a hurricane with wind speeds of 150 mph or higher for two consecutive years. If hurricanes become more common in previously safe states, how does this affect house prices, mortgage performance and insurance?

According to research on “hurricanes and residential mortgage loan performance,” hurricanes cause significant increases in not only the probability of default but also net severity, which are both determinants of credit losses. This can be compounded when access to government disaster aid is limited. The same research indicates that hurricanes are becoming more damaging, and the frequency of the most destructive hurricanes has increased.

Hurricanes could affect the stability of banks that issue residential real estate loans. Let's take a closer look at what trends are developing and what can be done to protect future investments.

The knock-on effect for buyers and sellers
Hurricanes damage properties, disrupt economic and social activities and drive up residential mortgage defaults and credit losses, which can be costly for homeowners and the economy. For example, mortgage foreclosures in New Orleans increased dramatically after Hurricane Katrina.

Most people in the U.S. choose to roll their insurance and their taxes into their mortgage payments. Suppose someone has been approved to buy a house for a payment of $2,000 per month. In the context of new flooding areas, it is quite plausible that the insurance increases from $100 per month to $250 per month. The buyer suddenly has significantly less purchasing power.

Hurricanes severely delay all processes — expensive repairs and a back-and-forth with the insurance company can take months. It would be catastrophic if this scenario were to happen regularly in many other regions.

Furthermore, if someone is trying to sell a house, the locking rate could expire before the person can sell. Indications are that prices will only continue to rise before hurricane season, the most popular time for sales in New Orleans, and plummet by a larger degree in the months after late August and September.

What is the overall market effect?
The performance of mortgages in an area where flooding and hurricane damage are prevalent is going to worsen. Looking at the current situation in New York, many basement apartments have been ruined by flooding without flood insurance to protect them. Unfortunately, if the cost of fixing one of these apartments is tens of thousands of dollars, many people will walk away from these mortgages.

President Biden even acknowledged the fact that insurance companies need to show humanity, saying, “Don’t hide behind the fine print and technicality.” But, realistically, are insurance companies always going to be fair? For a one-time freak event, perhaps, but not if it becomes a regular occurrence. To avoid a crisis similar to in 2008, protection needs to be in place for the mortgage industry. Soon, flood insurance will need to be standard for almost all coastal areas, which will be a considerable cost.

We need more awareness and updated flood maps 
More than one-third of states have no statutory or regulatory requirement that require a seller to disclose a property’s flood risks or past flood damages to a potential buyer. However, as a buyer or lender, you should have access to such information to calculate risks correctly. And if the previous owners had flood insurance through the National Flood Insurance Program, then the Federal Emergency Management Agency would have a record of past flooding it could share too.

According to analysis from Climate Central, the number of affordable-housing units in the United States that are at risk of regular flooding is expected to triple by 2050 as sea levels rise.

Yet, FEMA has not comprehensively amended the standards for building and land use in flood-prone areas since the early 1970s. Even since a congressional mandate requiring FEMA to include future conditions of updated flood maps, these conditions are still unknown, meaning communities are making decisions without considering future climate changes.

Hurricanes are not going to stop magically. If anything, they are going to become more prevalent. Spreading awareness surrounding flood insurance will prevent disaster economically. Furthermore, if floodplain information continues to be updated, insurance companies will be forced to provide flood insurance on a larger scale.