Credit crunch hitting state storm insurance fund

Miami Herald--Apr. 01, 2008

BY BEATRICE E. GARCIA

Because of the near-shutdown of the credit markets and rising interest rates, insurers in Florida fear the state’s hurricane catastrophe fund may not live up to its promise if a massive storm hits this hurricane season.

The Florida Hurricane Catastrophe Fund, which has backed up the insurance industry for nearly 15 years, has nearly $6 billion in cash and borrowed money in its kitty to pay claims. It relies on credit markets to raise the rest of the money it would need to back up insurers, and the current turmoil could make the CAT fund fall short.

In a good market, the CAT fund raises the money it needs by selling bonds. ”But in a bad market, bets are off,” said Jack Nicholson, the fund’s executive director.

The CAT fund has already faced this predicament. Last summer, it could sell only $3.5 billion in bonds, rather than the $7 billion it wanted.

”The real question is what will be the condition of the credit markets when we need it,” Nicholson said.

Quite simply, the CAT fund could face a liquidity crisis.

This lack of faith is causing many private insurers that buy backup coverage from the CAT fund to consider buying additional coverage in the private reinsurance market.

Citizens Property Insurance, the state-run insurer, is ”aggressively” shopping for extra backup insurance coverage in the private reinsurance market, said Bruce Douglas, chairman of the company’s board of directors.

Citizens, the largest provider of coverage for homes, apartments and condominiums, has hired an insurance broker to check out the cost and availability of private reinsurance for the coming hurricane season. Citizens is the CAT fund’s biggest customer, accounting for 40 percent of the coverage it sells.

WHAT’S FEARED

Here’s why insurers are worried:

The CAT fund currently is authorized to sell up to $28 billion in coverage to insurers, including Citizens. Nicholson said the CAT fund may have ”a moral obligation” to cover losses up to that level.

By law, it’s obligated to cover losses up to the amount of money it can raise in the bond market. A February report to the Financial Services Commission prepared by the Office of Insurance Regulation reiterated this point.

The report noted that the CAT fund would face a deficit of nearly $21.4 billion if the state experienced the kind of huge storm that could hit once in 50 years, producing total losses of $32 billion.

To cover such a shortfall, the CAT fund would have to add a 4.06 percent surcharge to all insurance policies in Florida — except medical malpractice and workers’ compensation policies — for 30 years.

That means a $40.60 charge for every $1,000 of annual premium on an insurance policy. Consumers with auto and home insurance policies would be hit twice.

The CAT fund ”is the real crisis” that lawmakers should be focused on during this session, the Florida Insurance Council’s Sam Miller said.

The CAT fund was created after Hurricane Andrew to sell cheaper backup insurance to insurers working in Florida. Insurers buy reinsurance to cover some of the losses they would face after a catastrophe. That way, all their capital isn’t exhausted by one disaster that delivers a deluge of claims.

Insurers do tap it. Last year, companies bought almost all the extra coverage the CAT fund provided because it was priced so cheaply.

”We appreciated the savings provided by the CAT fund, but we’re worried about its solvency when the big one hits,” said John Auer, president of American Strategic Insurance in St. Petersburg. His company buys 40 percent of its reinsurance from the CAT fund.

The CAT fund was set up as a self-funding vehicle. If it must issue debt to reimburse insurers that buy its coverage, it sells bonds. The bonds are paid back from customer premiums and through assessments. State dollars aren’t pledged to cover the CAT if it runs out of money.

FUNDS AS OF NOW

Right now, the CAT fund has $2.08 billion in operating cash, $3.5 billion in five-year floating-rate notes and another $2.8 billion in extendable notes, which will be eliminated in May.

Another $1.3 billion will begin coming later this year as insurers begin to pay their premiums for the next year.

Last year, lawmakers expanded the capacity of the CAT fund, allowing it to provide up to $28 billion in coverage.

The deal was for insurers to pass on the savings from the cheaper reinsurance to policyholders in the form of lower premium rates.

While some policyholders have seen savings, they weren’t as significant as the Legislature and state officials had expected — given the additional risk the CAT fund took on.

Both the state House and Senate are working on legislation to reduce the exposure of the CAT fund by $3 billion.

Sen. Steve Geller, a Cooper City Democrat, has suggested having the state promise to put its full faith and credit behind the CAT fund as a way to give insurers more confidence in its coverage.

However, that’s not easily done.

Ben Watkins, director of bond finance for the State Board of Administration, said it would require a constitutional amendment to have the state back up the CAT fund. To change how it is funded would require legislative action, he added.

UNFAIR TAX?

Some lawmakers, especially those in the central and northern parts of the state, view these surcharges — which also can be imposed by Citizens — as an unfair tax on their constituents.

Sens. J.D. Alexander, a Winter Park Republican, and Al Lawson, a Tallahassee Democrat, as well as Reps. Dennis Ross, a Lakeland Republican, and Don Brown, a De Funiak Springs Republican, say coastal homeowners who benefit from the coverage should pay the surcharges.

Lawmakers could take money from the state’s general revenue to cover a CAT fund, as they it did in 2006 when $715 million went to pay off a portion of Citizens’ shortfall after the 2005 storms.

But in a year when the state budget is facing massive cutbacks, such help isn’t likely.