Insurers that adopted a tough stance on Hurricane Katrina claims involving storm surge face bigger losses and possibly punitive damages in the wake of a federal court ruling last week, according to a rating firm's analysis.

"Companies that took a harder line by not paying for damages when flood was a factor, or had inconsistent handling of claims by adjustors, are looking at larger losses and potential punitive damages," said Fitch Ratings in Chicago.

The firm's assessment followed the decisions by U.S. District Court Judge L.T. Senter Jr. in Gulfport, Miss., against State Farm in a case brought by homeowners Norman and Genevieve Broussard of Biloxi, Miss.

Judge Senter found that the insurer had not provided sufficient expert evidence to attribute all of the Broussard home's destruction to flooding, and that the couple were entitled to punitive damages--for which the jury awarded $2.5 million.

Fitch noted it is monitoring Hurricane Katrina claim-settlement activity by insurers, and said there will be "downward pressure on ratings for insurers that suffer material losses that are significantly worse than peer averages, or show greater legal exposure due to claims practices out of step with industry norms."

At this point, Fitch said it is still too early to quantify the impact this ruling will have on State Farm due to a likely appeal.

The rating firm also noted State Farm's pending settlement talks with 639 policyholders in Mississippi, as well as the lack of information regarding the number of cases with similar characteristics to the Broussard case.

Fitch said it also believes the Broussard case "may significantly affect outstanding settlement negotiations between policyholders and insurers. No rating action on State Farm or any other insurers is expected under the current circumstances."

Fitch noted Judge Senter's ruling last August in another homeowner's case involving Hurricane Katrina, where Nationwide Mutual's homeowners policy flood exclusion language was upheld.

The judge in that case, while ruling the company had no exposure for storm-surge flood damage, did rule that the insurer had to pay for a portion of the home that was destroyed by wind.

Fitch said it interprets Judge Senter's Broussard ruling as placing the burden of proof on wind-versus-flood damage on the insurers, consequently giving policyholders the benefit of doubt when the cause of damage cannot be determined between wind and flood.

The rating firm said Hurricane Katrina is arguably the most complex insured loss in history, and it is taking much longer than normal to identify, adjust and settle claims, creating negative implications for the insurance industry.

Insurance claims tend to grow when not settled promptly, said Fitch, adding it believes the risk of adverse development is very high, and warning that Katrina "may generate material casualty claims (liability for water contamination, directors and officers for failure to purchase adequate insurance, etc.), which is unusual for a natural catastrophe."

The impact of the Broussard ruling goes beyond State Farm to all insurers with Hurricane Katrina exposure, Fitch said.

"It is currently unclear which companies will be hardest hit," according to the rating agency. "Every company's approach to settling claims is different. Insurers that had already settled claims in the policyholder's favor when damages from wind and flood could not be differentiated will be unaffected by the Broussard ruling."

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Hard Liners On Katrina Claims Face Trouble: Fitch

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