Cat has insurance industry's tongue about "convergence" of Bailout and reauthorization of NFIP

One glance at the feed from the National Underwriter – Frank seeks to extend NFIP, Industry opposed– was all it took for me to start digging through my notes for Like a cat chasing its tail until I found the article.

Convergence is a topic that continues to gain attention within the insurance industry. It seems that articles for the last 25 to 30 years noted with interest the inevitability of the insurance market and the capital market combining.

I don’t recall reading a word about this convergence in anything about the Bailout; but, clearly there was insurance money in the subprime market. In addition to that we reported in Another Massive Reinsurance Failure (January 2008), we’ve also discussed Allstate’s approximately $4.8 billion investment in subprime mortgage securities. An an article I found tonight said:

The $4.8 billion is approximately equal to all of 2006 earnings…The holdings are approximately 22% of Allstate’s equity.

That looks pretty “convergent” to me and, in an entirely different way, so does the industry’s position on the temporary extension of the NFIP proposed by Senator Frank and opposition to expanding the program to include wind damage as proposed in HR3121.

Both the Property Casualty Insurers Association of American and the National Association of Mutual Insurance Companies, however, issued statements opposing the extension.

Cliston Brown, a spokesman for PCI, said, “With the turmoil in our financial markets and an energy crisis that requires the full attention of Congress, we can ill afford to delay full reauthorization of this program for seven months.”

Jimi Grande, NAMIC vice president for federal and political affairs, agreed. “A short-term extension without reforms to the NFIP would be a mistake,” he said.

At the same time, this proposal, if approved by Congress, would leave open the possibility that a new president could approve adding wind to the program—something President Bush and the Senate oppose.

Adding wind coverage is also opposed by the insurance and reinsurance industries, which have lobbied heavily against it.

Take a look at the rest of the lede article and see where you think the insurance industry stands on the bailout.

Several times during the past several decades, seminal events were heralded as the arrival of convergence. The Gramm-Leach-Bliley Act of 1999 was one such event. GLBA broke down some of the traditional barriers, so surely convergence would soon follow…

In the early 1990s, a new concept called catastrophe bonds (CAT bonds) was quietly introduced to a reinsurance community that was suffering capacity problems following Hurricane Andrew…

The next 15 years or so found modest, but orderly growth in the CAT bond market, as it continued to gain proponents from within both the capital markets and reinsurance community. However, it was the period immediately following Hurricanes Katrina, Rita and Wilma (the three sisters) that really set the stage for CAT bonds… einsurers were forced to accept any available options, and CAT bonds became a welcome addition.

But investors were also beginning to have a “love affair” with insurance-related securitizations, mainly CAT bonds. They quickly saw that minimal losses (actually only one bond was involved in Katrina) followed the three sisters and, thus, grew more comfortable with the concept.
Additionally, both the speed to market and the transactional costs had been reduced substantially…along with the higher-than-average rates of return, soon had the CAT bonds cast as the “darlings of the capital markets.”

And for many capital market participants, CAT bonds represented a portfolio diversification that was highly prized in the investment community. This fact, along with the higher-than-average rates of return, soon had the CAT bonds cast as the “darlings of the capital markets.”

…While CAT bonds have been the most used capital market product within the insurance industry, they are certainly not the only products available…Unique accounting requirements in both the term life and universal life areas required insurers to maintain redundant reserves and either to set aside more reserves in the form of cash or to obtain additional reinsurance to cover this requirement.

The capital market was quick to develop a solution to this problem…Because most of these products utilize captive insurance companies, several captive domiciles have begun specializing in this form of capital market participation.

Among the more popular captive domiciles are Vermont, South Carolina and Arizona…these products have found a ready market within the insurance community and with eager investors within the capital markets. Future growth and convergence in this area is likely.

Another recent addition to the capital market products is sidecars. These products were also a product of the capacity crunch that followed the three sisters. In essence, sidecars were quickly funded insurance operations that were typically formed in Bermuda and represented additional capital that could be used in the reinsurance market…

It appears that the capital market will continue to maintain and even grow its involvement within the reinsurance community…

Many reinsurers do remain interested in capital markets products; for example, most reinsurer’s portfolios now include CAT bonds.

And on the other side of the equation, the investment community remains as interested as ever in the insurance industry. In general, the investment community has become much more familiar with and accepting of the insurance industry. The advancements that CAT bonds have made in just the past few years are testament to the acceptance by hedge fund and pension fund managers.

In a time of falling interest rates, insurance-related securitizations still represent one of the higher investment income opportunities available to the capital market.

No wonder the opposition to Paulson’s draft proposal appears to be growing.

Critics raised questions about what influence federal officials such as Treasury Secretary Henry M. Paulson, who reportedly sought the ouster of AIG Chief Executive Robert Willumstad as a condition of the bailout, would exert over the companies, and what role politics might play in their operation, the paper said.

“When you have these things going on behind closed doors, it’s a little disconcerting,” said Dean Baker, co-director of the Center for Economic and Policy Research, a left-leaning think tank in Washington.

“When you do have sell-offs of the parts of AIG, we want to make sure that is done on a fair-market basis. You don’t want to have sweetheart deals.”

Excellent points – and a timely reminder about the post on bailout politics in drafts.

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