FHCF Advisory Council Meeting Report: March 20

The Florida Hurricane Catastrophe Fund (“FHCF”) Advisory Council met on March 20, 2009 in Tallahassee to address a number of pertinent issues relating to FHCF fiscal and procedural administration for the 2009 Hurricane Season.  To view the meeting agenda and materials, click here.

These issues included:

1. the election of new officers;
2. a presentation, discussion and vote on the 2009/2010 FHCF Premium Formula;
3. an update on the financial markets in which the FHCF must operate and invest;
4. an update on the FHCH portfolio and investment results;
5. FHCF staff reports focusing on FHCF investment policy guidelines, 2004/2005 hurricane loss updates, a legislative update, and staff activities directed at obtaining financial support from the federal government for the FHCF; and
6. the schedule and agendas for upcoming meetings.

Outgoing Advisory Council Chairman William Huffcut was replaced by newly-elected Jim Henderson, who formerly held the position of vice chairman.  Mr. Huffcut will continue to be an Advisory Council member.  David Walker was elected as incoming vice chairman. 

Mr. Paul Budde, an actuary from Paragon Strategic Solutions, Inc., presented a report on the 2009 FHCF Ratemaking Formula.  The Advisory Council later voted on the Premium Formula (“Formula”), with the recommendation for its adoption to be considered by the State Board of Administration (“SBA”) Trustees, who will be meeting on April 14 to vote on the 2009 Formula.  Ample time will be provided to FHCF member companies in order to determine whether they will enter into FHCF reimbursement contracts prior to the June 1, 2009 deadline. 

Mr. Budde provided an overview of the ratemaking process and explained that the Formula is used in order to calculate premiums for FHCF member companies that buy reinsurance from the FHCF.  Mr. Budde explained that this year, the FHCF’s mandatory layer of coverage is approximately $17.15 billion, and that the Temporary Increased Coverage Limit (“TICL”) is $12 billion, for a total of approximately $29.15 billion in capacity. 

The most significant aspect of the Formula, and the one issue that drew the most discussion and debate was the assumption within the Formula that a financial product will be purchased, such as a “put” option (as was purchased last year, but not included in the initial Premium Formula), at the cost of $250 million on a “25 online” basis.  (“25 online” means that for every 25 cents paid, $1 dollar of risk is transferred, which, in this case, would translate into $1 billion of expanded capacity for the $250 million “put” option.  The inclusion of the $250 million expense in the formula drove up the ‘base case’ rate by 25.3 percent, which essentially means that all costs increased by 25 percent from last year). 

As Mr. Budde explained, the FHCF Ratemaking Formula Report’s $250 million figure was calculated by first considering a wide range of financial product options (up to $1.25 billion, with corresponding changes in the base case rate).  The $250 million figure is at the lower end of this range of options, and was ultimately calculated because it was roughly the cost of obtaining greater capacity for the FHCF during the previous year, in which a “put” option was purchased from Berkshire Hathaway. 

A number of concerns were raised about the inclusion of this figure in the Formula, particularly with the $250 million figure being used as a ‘base case’ for all rates.  This amount may prove inadequate in light of the fact that last year, the “put” option was purchased to increase the TICL layer, while this year it is being purchased to bolster the mandatory layer.  Further, the financial sector is not functioning the way it did at the time the Berkshire Hathaway product was purchased.  With that, and current liquidity issues, it may prove more difficult to obtain the expanded capacity at the same price. 

Other concerns about the assumptions made in the Formula included its application to the FHCF, inasmuch as the FHCF currently is governed by Florida law that is subject to change during the current 2009 Regular Legislative Session. 

Further, the issue remains whether the private reinsurance market may not provide a better means of expanding capacity than the “put” option approach, because as the cost of the “put” option increases, purchasing private reinsurance products, or some kind of “hybrid put” option/reinsurance product that may not have to be reimbursed might make more sense. 

Additionally, there was concern with the Formula’s assumption that the FHCF’s investment income would remain at its historical short-term three percent per annum rate of return, since this amount did not seem to be very realistic to some Advisory Council members who asked for a more conservative estimate.  Ultimately, it was unanimously voted to recommend the Formula to the SBA Trustees, provided that it includes the range of financial product options provided in the aforementioned Paragon Ratemaking Formula Report.

The Report also included an explanation of the expansion of rating classifications, such as:  year built, opening protection, roof shape, and roof deck attachment.  Mr. Budde explained that the net impact of the expanded classifications is essentially nonexistent because it only affects how the premium is allocated across the six million Florida risks and, on average, there is no impact. 

Mr. Kapil Bhatia of Raymond James & Associates provided an update on the financial markets in which the FHCF must operate and invest.  Referencing the substantial Fourth Quarter 2008 loss taken by Berkshire Hathaway, Mr. Bhatia cautioned that a “put” option may not be the best means of expanding FHCF capacity. 

Mr. Bhatia’s team is exploring a number of different financial products and will have a better idea during the next three to four weeks of what will be purchased.  He also related that the SBA’s Ash Williams and Florida Insurance Commissioner Kevin McCarty are working to gain financial support for the FHCF at the federal level. 

Richard Smith, an FHCF trustee, updated the Advisory Council on the FHCF portfolio and investment results.  To illustrate the environment in which the FHCF is investing, Mr. Smith pointed out that, since the last time he addressed the Council, the major U.S. equity indexes have dropped between 34-37 percent.  Mr. Smith also reported that the FHCF operating fund had suffered a $118 million unrealized loss because of the federal government’s decision not to rescue Lehman Brothers or Washington Mutual. 

FHCF Director of Operations Anne Bert reported on FHCF Investment Policy Guidelines, and explained the FHCF asset investment priorities as follows:

1. make sure the assets are safe;
2. make them as liquid as possible; and
3. of least importance, generate investment income.

Safety and liquidity are the primary concern because the FHCF must be able to pay claims when they arise. 

Ms. Bert discussed the FHCF’s losses for the 2004-2005 hurricane season.  She explained that the expected 2004 losses are $3.95 billion, of which $3.836 billion has been paid out, leaving an outstanding $114 million to be paid.  Expected 2005 losses are $5.2 billion, with $4.723 billion paid out to date, leaving $447 million outstanding.

Ms. Bert also provided a legislative update that included bills currently being tracked by the FHCF in the Florida Legislature.  Ms. Bert explained that it is early in the Session, and that none of these bills (below) have been heard in Committee, nor do many have companion versions yet:

• HB 1157/ SB 2384, relating to the Florida Hurricane Protection Program, which would alter the function of the FHCF;
• HB 437, which would lower the TICL layer from $12 billion to $9 billion;
• HB 1495, which would extend TICL to the 2015 hurricane season; and
• HB 1171/ SB 2013, which would impact the collection of emergency assessments.

Ms. Bert concluded her report by explaining the current FHCF staff activities that are focused on gaining federal financial support for the FHCF and noted that the FHCF staff are working with other states such as California and North Carolina in order to coordinate their efforts.

Upcoming FHCF Advisory Council meetings:

• May 12, 2009 – 9:00 a.m. to 1:00 p.m. ET
  • May 2009 Bonding Estimates
  • Legislative Update

 

Please note that the material above is a brief summary of the discussion and events that took place during the meeting of the Florida Hurricane Catastrophe Fund Advisory Council.  It is not intended to be a comprehensive review of any particular issues relating to the matters discussed.  Further, this report should not be relied upon for making any specific decisions.  Should you have any questions about any of the above matters, please contact Colodny Fass, which will continue to follow this, and other issues related to actions taken by the Florida Hurricane Catastrophe Fund Advisory Council, and provide information on, and analysis of, those issues and events as they arise.

 

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