Floridians will face significant insurance surcharges some day to help generate funds needed by the Florida Hurricane Catastrophe Fund (Cat Fund), Citizens Property Insurance Corporation, and private insurers. An even worse scenario is possible. A Category 4 or 5 hurricane in Tampa Bay or Southeast Florida probably would mean Cat Fund payouts of $28 billion, perhaps billions more than the program can timely raise. Some claims might go unpaid while Florida government scrambles to find the money.
We have some real issues to address in the system to finance losses from the all-too-frequent hurricanes striking Florida, and there was little appetite in the Legislature this year to tackle them.
The monster storm behind the doom- -and-gloom scenario with the Cat Fund running out of money could very well strike this year, although forecasters say the probability of a major storm hitting is far less than the probability of one or more moderate hurricanes striking.
While state policymakers adopted a casino-styled "roll the dice" attitude toward hurricane financing in Florida, officials of the Cat Fund and Citizens Property have done probably all they could to be ready to respond, given the state policy under which they must operate.
Cautious Optimism
Nonetheless, Cat Fund officials were cautiously optimistic during the annual Participating Insurers Conference in June, saying that they can handle anything but a one-in-100-year hurricane. This would include a repeat of the 2004 and 2005 hurricane seasons and implementation of the initial "mandatory" Cat Fund program of more than $16 billion.
Jack Nicholson, FHCF senior officer, and John Forney of Raymond James & Associates and the financial advisor for the Cat Fund and Citizens, participated in a panel during the conference. Their conclusions were that the news is mixed. From a liquidity standpoint, the Cat Fund is in the best shape in its 15-year history, with $8.1 billion in cash. This consists of $3.6 billion in cash surplus from premiums and $4.5 billion in pre-event bonding already implemented. This would be on top of the $6.878 billion industry retention for the 2008 hurricane season and a 10 percent co-pay once the Cat Fund triggered.
In addition, the Cat Fund's underwriters are guardedly confident they could issue $10 billion in bonds for anything less than a single monster hurricane because the financing could be spread out for as much as four years. They note that it took 50 weeks for the Cat Fund to pay its first $3 billion in the 2004 hurricane season.
"Anything we have faced so far we could handle again with much greater ease," Nicholson said during the panel.
The bad news is the major difficulty the Cat Fund would have in timely producing the tens of billions of dollars in bonds necessary in a 100-year storm event that would require its $28 billion in total capacity. With the economic markets in the state they are in now, that is just not in the cards.
In early July, the State Board of Administration did execute an extraordinary agreement with Warren Buffett-owned Berkshire Hathaway, a $4 billion bond "put." The state will pay Berkshire Hathaway $224 million for a guarantee that the financial powerhouse will purchase $4 billion in bonds if Cat Fund payouts in one or more hurricanes this year exceed $16 billion prompting activation of the $12 billion TICL. The move would provide the Cat Fund with some $20 billion — certainly a lot of money — but still $8 billion short of its full liability.
The "97 percent probability" events can be handled, Nicholson and Forney said. The "three percent probability" event triggers a crisis. That would be a ground up residential loss of $25 billion or more, something the Cat Fund has never faced, and a 100-year event statistically – something not likely this year, but possible.
Citizens Secures Financing
As Florida's largest property and casualty insurer, Citizens has developed a $20 billion claims-paying program that would get it through a repeat of the 2004 and 2005 hurricane seasons. A significant amount of this money comes from the Cat Fund, but the fund appears ready to deliver at this level, as noted above.
Citizens announced at its June board meeting that it had secured pre-event financing of $1.75 billion for its Coastal High-Risk Account. This amount is in addition to the $1.6 billion bank credit line obtained for the Personal Lines Account and the Commercial Lines Account. Citizens sold $1.75 billion of one- and three-year securities at yields ranging from 2.5 percent to 4.37 percent. The financing provides Citizens access to cash it may need to pay future claims in its high-risk account.
"With this issuance along with the other financially prudent decisions, Citizens will have more than $20 billon of claims-paying capacity," reported financial advisor Forney.
Citizens also recently completed the purchase of private reinsurance for the High-Risk Account for the mandatory co-payment required to access payments from the Cat Fund. As Citizens noted in a statement, the purchase of reinsurance in the high-risk account transfers over $450 million of potential risk and assessments from Citizens' customers and all Floridians to the private insurance market.
So, absent the Cat 4 or Cat 5 monster hitting Tampa or Miami, the system should deliver. But critical long-term challenges, questions, and issues remain, including the looming liability for major insurance surcharges, taxes, assessments, or whatever you want to call them. The assessments will be borne by all Florida homeowners, anyone with an auto insurance policy, and all business owners throughout the state. The bonds, the loans from the lines of credit, everything but cash accumulated from premiums paid by Cat Fund and Citizens policyholders, must be paid back over a period of years, perhaps decades.
The assessments have a cross-subsidization impact, with residents of inland Florida paying more for property insurance than their risk justifies, and coastal residents paying less than 100 percent actuarially sound rates and enjoying the subsidy.
Other questions include what happens if and when the Cat Fund is on the hook for $28 billion? Should the TICL program be extended or allowed to expire at the end of the 2009 hurricane season, as currently scheduled? Should Citizens' rate freeze be lifted at the end of this year or be extended? Should Citizens continue to compete with the private insurance community.
There's lots of heavy lifting here, and policy makers cannot ignore these tough questions forever.
We can be reasonably confident, at least, that the Cat Fund, Citizens Property Insurance, and private carriers can pay their claims when hurricanes attack the state once more, which could be during the coming months.
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