Outlook Improves for State Reinsurer

Those who help run the Cat Fund, however, say that this is the start of a rebound for the battered reinsurance fund. They point out that $6.4 billion worth of exposure has been transferred back to the private market this year.

"There's no such thing as a financial institution that's too strong, or too safe, but that said, there's no doubt the Cat Fund is moving in the right direction," said Ash Williams, executive director of the State Board of Administration. The board manages both the state pension fund and the Cat Fund.

Reeling Back the 2007 Changes

The Cat Fund — created following Hurricane Andrew — was expanded by $12 billion in 2007 as a way to deal with rising property insurance rates. But the fund's ability to pay claims came into question last year after the recession created a worldwide credit crunch.

Financial advisors warned that the fund was likely incapable of borrowing enough money to meet its obligations in the event of a large storm. In turn, this led to warnings from rating agencies to those carriers that depend on it.

The Cat Fund is already imposing a one-percent emergency assessment on most property and casualty lines to pay off bonds it issued in the wake of the four hurricanes that pounded Florida in 2005.

This spring, state legislators decided to undo some of the 2007 changes. They approved a comprehensive property insurance bill that gradually pares down the coverage that the reinsurer can offer to Florida carriers under the highest layer known as the Temporary Increase in Coverage Limit (TICL). The new law mandates a $2 billion reduction in coverage each year until it is completely eliminated by 2014.

This law change also increased the cost of TICL coverage and authorized the Cat Fund to charge insurers more to build up its cash reserves.

But the marketplace has also resulted in a reduction in Cat Fund exposure.

By the numbers, there were 195 companies that purchased mandatory Cat Fund coverage for the 2009 hurricane season. Most of them opted for 90 percent coverage — the highest level available. This was down slightly from 202 participating insurers in 2008.

But only 73 companies chose to purchase the optional reinsurance offered in the TICL layer. The previous year, 133 companies bought this higher layer of coverage.

That means that only $5.5 billion worth of the $10 billion in TICL coverage was accessed by companies for this year's season. Large companies such as State Farm Florida, Allstate Floridian, USAA, and Universal P&C decided not to purchase the optional coverage.

Betting on the Cat Fund

The largest customer of TICL coverage was Citizens, which purchased almost 65 percent of the entire amount sold. The other companies that made significant TICL purchases were primarily domestic-based companies. After Citizens, the top 10 purchasers by coverage were Royal Palm ($169 million), QBE ($139 million), Liberty Mutual Fire ($134.5 million), Florida Peninsula ($128 million), Homewise ($114.7 million), Hartford ($94.8 million), First Protective ($80.5 million), Magnolia ($74.8 million), American Coastal ($71.6 million), and Security First ($66.2 million).

All of these companies are still taking a bit of a risk because the latest analysis concludes that the Cat Fund is unlikely to borrow the money it needs to cover any of the coverage it offered carriers under the TICL layer. The Cat Fund has access to about $8 billion in resources and another $8 billion it estimates it could bond. That still leaves the fund with a shortfall of more than $7 billion.

Stander says the fact that so many large companies did not buy TICL coverage is a signal that the private market does not believe the Cat Fund can pay off large claims.

"It is cheaper than your commercial reinsurance," Stander said. "Those companies that are buying it are doing so because it helps them keep their prices down. But that does not negate the reality that the TICL layer is suspect."

Citizens Buys the Maximum

Despite these ongoing questions, the board of governors for Citizens decided in May to purchase the maximum amount it could from the state reinsurer instead of seeking additional reinsurance from private carriers.

The argument made by Citizens' officials is that purchasing coverage from the Cat Fund "affords Citizens an opportunity to transfer a significant amount of risk at a much lower cost than comparable private reinsurance." It cost Citizens an estimated $173 million to purchase $3.5 billion worth of coverage in the TICL layer.

Citizens' officials also said that relying on the Cat Fund reduces the chance that both it and the fund would be in the market seeking to borrow money at the same time. Citizens, like the Cat Fund, is allowed by law to charge assessments on insurance policies if runs short of money.

Another argument made by Citizens' officials is that the Cat Fund's emergency assessments are spread out over several years. By contrast, Citizens' assessments on private insurance policies are a one-time charge that may be then passed on to individual policy holders.

John Kuczwanski, a spokesman for Citizens, also said it made sense to purchase coverage from the Cat Fund because the money spent would "remain in Florida."