There have been a good number of news tidbits that do not necessarily constitute a post here on Slabbed on their own but when taken together tie up several loose ends and lend context to a story that does merit it’s own post in Mike Chaney’s recent insurance forum held last Thursday and Friday here on the coast. So let’s backtrack a week and shake us up slabbed insurance cocktail by beginning with Anita Lee’s coverage of day 2:
Gov. Haley Barbour joined the coastal insurance debate Friday, telling an audience he believes regional compacts would be the best way to regulate wind coverage in coastal zones from Texas to Maine.
Barbour introduced The Travelers Insurance Cos. president, Brian MacLean, to explain the company’s proposal for improving the coast insurance market. Insurers have pulled back from coastlines in recent years, leaving state-run wind pools to fill the void.
Wind pools were intended as insurers of last resort, but their market shares have grown to levels that experts agree are unsustainable. Insurance works by spreading risk, not concentrating it.
Haley has been conspicuously absent from the insurance scene refusing to comment on the litigation while offering cheap lip service to Gene Taylor’s multi peril bill. I suspect he and the State GOP has been searching for a way to throw a bone to the people on the coast that helped elect him while working hard to preserve GOP big business bonafides with the campaign money machine that is big insurance. To that end Haley has latched onto the Travelers 4 Pillars plan which is underpinned by the Federal Government going into the reinsurance business. Given the massive financial problems a similar industry backed program has experienced in Florida along with problems we highlighted in the Cat Bond market (reinsurance securitized) I have my doubts and actually think the proposal has no chance with the Obama administration. Some of the State Insurance Commissioners present also had their doubts but not for any of the reasons I listed, rather I suspect the fear of the end of the revolving door and the associated financial benefits is foremost on the minds of Mike Chaney and his commish buds that were in attendance. Jim Donelon in particular had a clownish quote about consumer protection that I’m certain Bob Weiss would find amusing:
Federal coverage for mega-disasters is key to the plan. Insurance companies would buy that coverage at cost, which would help keep down rates. Two state insurance commissioners were skeptical.
“There would be nobody there to protect consumers except the lobbyists for the insurance companies,” Louisiana Insurance Commissioner James Donelon said. “That’s how federal regulation works.
He and others pointed to the financial collapse of AIG Inc. under federal regulation. AIG insurance companies under state regulation remained solvent.
What Donelon did not say of course was that State Insurance Regulators along with the NAIC changed what counted as regulatory capital including silly things like deferred income taxes, for instance, as resources available to pay claims. We covered the changing of the solvency definition here, here, here, here, here, here and here. I’ll also note the State Insurance Commissioners were MIA on the Gen Re $500 million dollar sham reinsurance scandal involving AIG. Simply put these state commissioners are not equipped to regulate global insurance concerns.
South Carolina Commish Scott Richardson, like our own Commish is an unabashed free insurance market true believer was blunt if not ideologically inconsistent on what the industry wants in profits with little risk while dumping the losers on the Federal Government:
South Carolina Insurance Commissioner Scott Richardson said, “I think their end game is to take that risk and put it on the federal government’s back and off insurance companies.”
Of course like I illustrated with Jim Donelon above many in the insurance industry remain firmly in denial, especially on the topic of claims dumping despite overwhelming evidence to the contrary so it should come as no surprise Gene Taylor was treated rudely by the industry attendees:
U.S. Rep. Gene Taylor spoke earlier in the day about his plan to include wind coverage in the National Flood Insurance Program. “We would spread the risk around the country, which is the point of insurance,” Taylor said. Rates, he said, would be set high enough to cover losses. Richardson countered that a sound rate would be much higher than most people could afford.
Taylor sees combining wind and flood insurance as the only way to resolve the conflict over who pays for hurricane damage when the cause is difficult or impossible to discern.
When he said private insurance companies stuck the NFIP with the bill for Katrina damage, one audience member booed. Another said, “That’s absurd.”
I debunked Richartdson’s arguments in a post I retrieved from the archives and stuck to our front page this past weekend which in turn attracted some additional insightful commentary from our own Brian Martin. Simply put Richardson is all wet.
In reality this is a fight over money, as in more money for insurers that generally post huge and consistent profits:
Richardson said it’s time to stop talking and act on solutions. One that’s been discussed for years would allow insurance companies to build tax-deferred reserves.
So while the merry gang of captured state insurance commissioners were blowing hot air in Biloxi, the good people at Artimis focused on the warm seas and the impacts of El Nino, just not on reduction of Atlantic tropical cyclonic activity. Rather for every benefit there is a cost, in this case the failure of the annual Indian Monsoons:
It’s been widely reported in the last few weeks that an El Nino weather pattern is developing in the Pacific. The phenomenon causes a warming of the Pacific ocean which in turn affects weather patterns globally, although the worst affected are those surrounding the Pacific. El Nino conditions are thought to cause a weaker monsoon in India than normal with lower rainfall levels than are required to irrigate land and crops. It also impacts India’s supply of electricity as a lot of their electricity production comes from hydropower plants and these are currently running below 40% capacity.
The biggest and most obvious impact of El Nino in India is of course the impact to farmers as crops will fail and sadly people can starve due to a weaker monsoon season. That’s where index based crop weather insurance comes into it’s own.
Most of the index based weather products available through microfinance schemes pay out both for too much and for too little rain. In the case of a weak monsoon claims could potentially run into the region of a 100%+ claims ratio for the first time, making this an unprofitable venture. That’s the concerning factor in India; microinsurance schemes are highly subsidised in order to attract reinsurers to these markets and if the profitability becomes even less likely then we may see some of the larger players pull out.
Of course, the savvy global reinsurers will have a portfolio of weather risk products themselves to hedge the risks of the microinsurance schemes going south, and while that may help some to stay interested, somewhere the loss will catch up with somebody. Climate change and patterns of weather such as El Nino make it extremely difficult to attempt to ‘yield’ manage weather insurance, some other solution needs to be found to provide a backstop to those running these schemes. An answer could be found by utilising instruments such as cat bonds as the final backstop for a bucket of reinsurers microinsurance policies, allowing investors to take the final risk in return for a healthy interest on their coupon.
They like Cat Bonds at Artimis but as our very good friend Mr CLS has repeatedly pointed out these securitized reinsurance contracts have drawbacks including issues in 2006 through 2008 being stuffed full of toxic paper. We’ve covered the problems in the Cat Bond market (along with the experts at Artimis) and those wanting to catch up can find our posts on that topic here, here, here, and here. There are still problems with the older issues that were stuffed with subprime toxic paper as the Insurance Journal reports:
Standard & Poor’s Ratings Services announced that it has lowered its ratings on six natural peril catastrophe bonds issued in 2007 and 2008, as listed below.
The bulletin said: “We lowered our ratings by one notch to reflect the adjusted probability of attachment for each bond that resulted from applying our criteria to the information we recently received in the annual reset reports.
“In addition, we placed our ratings on four catastrophe bonds, all related to the Residential Reinsurance 2007 Ltd. issuance, on CreditWatch with negative implications. We are awaiting updated occurrence and aggregate exceedence probability curves from the transaction modeling agent, AIR.
“Because the notes will mature on June 7, 2010, and there are no subsequent portfolio resets, the passage of time during the remaining risk period has lowered the probability of attachment. Given the information we have, if we do lower the ratings, it likely would be by one notch for the class 2, 3, and 4 notes and up to two notches for the class 5 notes. We expect to receive the updated curves shortly and will then resolve the CreditWatch.
“The criteria article “Methodology And Assumptions For Rating Natural Catastrophe Bonds,” published by S&P on May 12, 2009 “provides indicative stress levels that we apply to each transaction’s occurrence (or aggregate) exceedence probability curve. Applying these stress levels, which per our criteria can vary from the indicative levels, to the applicable occurrence (or aggregate) exceedence curves generated a probability of attachment greater than in the annual reset reports presented to Standard & Poor’s. As a result, the adjusted probability of attachment on each bond, when compared with the default table used to rate natural peril catastrophe bonds, indicates a rating different than the current rating.”
“The ratings on the remaining natural peril catastrophe bonds for which we have received reset reports are not affected.
— Caelus Re Ltd. Series 2008-1 Class A to BB from BB+
— Carillon Ltd. Series 2 Class E to B- fom B
— East Lane Re II Ltd. Series 2008-1 Class C to CCC+ from B-
— East Lane Re Ltd. Series 2007-1 Class B to BB from BB+
— Residential Reinsurance 2008 Ltd. Class 1 to BB- from BB
— Residential Reinsurance 2008 Ltd. Class 2 to B- from B
Ratings Placed On CreditWatch Negative:
— Residential Reinsurance 2007 Ltd. Class 2 B+/Watch Neg B+
— Residential Reinsurance 2007 Ltd. Class 3 B/Watch Neg B
— Residential Reinsurance 2007 Ltd. Class 4 BB+/Watch Neg BB+
— Residential Reinsurance 2007 Ltd. Class 5 BB+/Watch Neg BB+
That problems of the recent past hasn’t scared investors off, however. As Mr CLS is fond of saying “you can’t beat those yields” and the folks at Artimis see the facts in the numbers and the numbers don’t lie:
Institutional investors seem to be increasingly confident about the cat bond market as they start to pour funds back into the asset class. After the blip in the market caused by the failure of Lehman Brothers the market appears to be back in favor as investors realise that the returns and low correlation still make it an attractive place to be.
Nephila Capital are one of the success stories of the year as they announce that they have raised around $980m from institutional investors seeking to put their money into catastrophe bonds in the second quarter of this year. Greg Hagood, co-founder of Nephila Capital, says the investors range from pension funds, to hedge funds and fund of funds, all are said to be seeking non-correlated investments such as cat bonds and insurance linked securities.
More encouraging signs of the health of the market; when investors return in droves it can help to drive prices down a little as demand increases, which in turn could help issuers get new transactions off the ground which is currently proving tricky due to price.
As the Clarion Ledger editorial board noted long ago “the key” that unlocks the solution to the coastal insurance crisis “is in the reinsurance”. Both the Travelers plan and Ron Klein’s Homeowner’s Defense Act take us further into that realm than ever before. Because of the complexities this is ground that needs to be carefully considered before we take the plunge. Here at Slabbed we give props to the Traveler’s for coming forward with ideas to solve the coastal insurance crisis. Unfortunately for coastal consumers we have a lot more “visiting” to do on these issues before a solution is found.