The credit crunch has deepened concerns over the adequacy of catastrophe funds in Florida, writes Liz Booth.
Florida has had a strange hurricane season this year. Escaping the wrath of Gustav and Ike, the state was hit by Fay, which resulted in some US$250m of damage. But while residents may be breathing a sigh of relief, turmoil in the international financial markets has meant that the Florida Hurricane Catastrophe Fund (FHCF) has been facing a storm of a different kind.
For several months through the hurricane season – which officially ended on 1 December – there was increasing concern that, if a major storm were to hit, the fund might not be able to meet its commitments. David A. Sampson, president and chief executive of the Property Casualty Insurers Association of America (PCI), said that he had “deep concerns” over the adequacy of catastrophe funds in Florida. He acknowledged that the FHCF had “proven to be a critical component of the Florida marketplace” but that it was time for the Florida legislature to consider the fund’s ability to meet its commitments.
At an advisory council meeting in mid-October, the FHCF’s financial advisor, Raymond James,
presented two views of the available capacity: theoretical capacity (the method that has been used in the past), and a market-based estimate developed with the FHCF’s three lead bond underwriters, Citi, Goldman Sachs and Morgan Stanley. The market-based estimate showed a substantial reduction from May 2008. It had fallen from May’s figure of $25.5bn of bonding and total capacity of $29.1bn to - in October - between just $1.5bn and $3bn of bonding and just $13.29bn of total capacity. The advisory council voted to accept the estimated loss reimbursement capacity and stressed companies should expect to provide for their own liquidity, either during the 12 months following an event or further into the future.
Rating agency AM Best then issued a warning about the fund’s capacity, with a subsequent warning on a number of affected insurers. At the end of October AM Best said that “based on the considerable credit market contraction and the uncertainty regarding the fund’s ability to fund its claims-paying capacity”, it had placed several insurers’ ratings under review with negative implications.
Earlier in the month AM Best reiterated its
concerns with the uncertainty associated with the contingent capital nature of the FHCF. It said: “These concerns have been exacerbated by the
considerable credit market contraction and the recently announced revision in the FHCF’s claim-paying capacity. AM Best continues to assess the impact on rated entities’ risk-adjusted capitalisation, based on the reduction in the potential coverage available from the FHCF.” It expected to maintain the insurer ratings for the rest of the hurricane season, with a re-evaluation to follow in December based on discussions with management on their catastrophe risk management practices.
Jeffrey Mango, an assistant vice-president at AM Best, says that there are still plenty of questions for the fund and for the companies that rely on the fund for their reinsurance protection. Next year, what will the Florida legislature do to rectify the situation and what will be the response of companies? Mango says that feedback from insurers suggests that the
legislature may cut back on the increased coverage layer but, as a rating agency, AM Best cannot predict what may happen. “But the sentiment is that the legislature will probably try to do something sooner rather than later,” he says.
In the past, the levels of the fund have not been set until just a few weeks before the new storm season has begun The private reinsurance market may well be in a position to step in and offer coverage but Mango says that it is still a “wait and see” situation, dependent on what the legislature chooses to do. It is not due to meet until well into the new year.
Bryon Ehrhart, president and chief executive officer of Aon Re Global Services, admits that there is concern in the market, but that the contraction in the fund’s ability to pay is not to do with poor management, but a result of what has happened in the bond markets. Looking ahead, Ehrhart predicts that the reinsurance capacity for 2009 will be tighter and that most of the market is already focusing on what will happen next year. Florida, he says, is already the world’s biggest cat market so any “hardening will be felt most there”. But like Mango, Ehrhart says that everything depends on what the legislature decides to do.
Lara Mowery, managing director and head of property specialty practice at Guy Carpenter, says that she too is watching and waiting. She predicts difficulties ahead. “There is a feeling that everyone is very committed to getting it done earlier rather than later. But in the past, the work has not finished until almost the first week of May. Companies are then only a few weeks off from the storm season and can only just get a structure in place, which creates a tight time frame. “One of the messages from the market is that if you give reinsurers significant lead time to respond then they will be able to restructure their own capacity restraints, decide if there is an opportunity and whether to respond.”
Insurers cannot duplicate coverage in the private market with that in place in the fund. They need to know what is available through that fund before they take up private market solutions.
But Mowery is confident that there will be enough capacity for the 1/1 renewals and is hopeful this will be resolved ahead of the set round of renewals.
Liz Booth is a freelance journalist