PropertyCasualty360.com
By Lynn McChristian
December 2011
They Say, Hearsay
First, politicians let Citizens Property Insurance and the Hurricane Catastrophe Fund grow. Now, there is all this talk about shrinking both of them, and I hear that will make my insurance bill rise. Where’s this sense of urgency coming from? Seems like we’ve got people crying wolf for no good reason.
We Say
There is good luck, and there’s dumb luck. We’ve had both over these 6 consecutive hurricane-free years. Today, however, calls to shrink Florida’s state-run property insurance mechanisms are coming from intelligent people who think the way you make your own luck is to plan for the time it runs out—whenever that is.
Running on luck is not what the COO of the Florida Hurricane Catastrophe Fund (Cat Fund) wants to do. Jack Nicholson has been saying, in essence, that if and when a major hurricane strikes, all the good fortune in the world (aka capital) will bring in no more than $7 billion in bonds to meet the Cat Fund’s current obligation of $18.4 billion. By year-end, lucky Florida’s Cat Fund will have $8.4 billion in cash, but there’s no way today’s world financial markets would find investors willing to buy $11 billion in bonds to close the gap. Marketplace realities say the best we could hope for is $7 billion—tops.
Shrinking the fund would mean that insurers would seek reinsurance in the private market, which costs more, and those costs would be passed on to consumers.
Tempers understandably flare with rate increases, so it may make sense to address this by shouting out the dastardly, fear-inducing four-letter word that is propelling efforts to moderate the state-run insurance mechanisms—debt.
Financing future storms with debt seems popular with people who are getting lower rates today. That tune changes when the bill comes due, including the bill we are still paying from Hurricane Wilma, a storm that hit way back in 2005. Our conversations with policyholders must continually stress that claims drive premiums, and if the money is not available the year it is needed, it will be collected on the back-end as long as necessary. “Pay it forward” is what the private market is required to do via regulation and legislation; “pay it backward” is the way the state insurance programs run, by design. However, a redesign may be on the horizon.
“Pay it forward” extends to bail outs that private carriers provide to Citizens or the Cat Fund when either experiences claims in excess of cash on hand. I think it would be interesting to show policyholders the invoice a company gets from regulators—which could amount to millions of dollars depending on the number of policies in force—and point out that this bill is payable within 30 days. It would make it crystal clear what that assessment amount is all about on their insurance bill.
Florida has been taking risks that seem ever riskier. Given the current economic conditions, these actions are sending danger-danger signals, and more people are hearing them.
Underwriting cycles have an effect on investment risk-taking, of course, and there is much history to show that in hard markets insurers experience greater underwriting losses and higher risk of insolvency. While the soft market is not over, planning for the next cycle is beginning because a couple of indicators are flashing.
Four criteria are necessary for a market to turn, and all four must be met:
– Sustained period of large underwriting losses
– Market decline in surplus/capacity
– Tight reinsurance market
– Renewed underwriting and pricing discipline.
The chart illustrates where things stand as of October 2011, a year with the highest global losses ever. Insured losses as of June 2011 were more than double those for the first half of last year and more than four times above the 10-year average. Global catastrophe losses of this magnitude will set profits back, compounded by low interest rates.
There are limits to insurers’ and reinsurers’ ability to finance catastrophe risk on their own, and there are new ways of packaging risk as securities. Florida State University’s Storm Risk Management Center has created a portal to share research and industry papers related to catastrophe risk financing. Its website (www.catriskfinancing.org) organizes content for academics, practitioners, researchers, and insurance professionals who want to understand the issues.
Earlier this year, the Florida Office of Insurance Regulation issued a report on the bonding and borrowing capacity of Citizens and the Cat Fund, concluding that “strategic methods for encouraging the movement of capital and property insurance policies to the private market should be employed as quickly as possible.” That is now a work in progress.
