The root cause of the broken Florida property insurance market is not, contrary to popular belief, the fact that Florida is peculiarly exposed to hurricanes. Other states and regions, such as North and South Carolina and the Texas Gulf coast, are also in harm’s way. Florida’s insurance crisis is man-made, rather than natural catastrophe-driven. Florida is home to off-the-charts lawsuit abuse, so much so that 79 percent of the homeowner insurance-related lawsuits in the entire country take place in Florida.
A major thrust of the special session will be devoted to solutions to put an end to out-of-control litigation. Another focus will be reinsurance, or insurance for insurance companies, which is the shock absorber of the insurance industry. Florida’s insurance industry is heavily dependent on reinsurance because many of its insurers operate only in Florida, and thereby lack the spread of risk.
Solutions discussed at the special session will likely involve two Florida entities that have a large role in the state’s insurance market—the Florida Hurricane Catastrophe Fund (FHCF) and Citizen’s Property Insurance Corporation (Citizens). Because these two bodies play an outsized part on the Florida insurance stage, it is important to know how they operate in terms of reinsurance.
Florida Hurricane Catastrophe Fund
The FHCF is a reinsurer of Florida insurance companies. It operates like a private market reinsurer, except for the price of its product. Its mission is:
to provide a stable and ongoing source of timely reimbursement to residential property insurers for a portion of their catastrophic hurricane losses for the purpose of protecting and advancing the state’s interest in maintaining insurance capacity through the efficient and effective administration of the fund.
The Florida Legislature created the FHCF in 1993, after Hurricane Andrew struck the state in the prior year. All Florida residential property insurers must buy reinsurance from the FHCF. The mandatory protection provided by the FHCF is similar to private market reinsurance except for the fact that it comes at lower cost. The FHCF requires that its customers retain $8.5 billion in coverage. If a loss event causes more than $8.5 billion in loss, losses reach the FHCF, which can provide up to $17 billion in limit.
There are two prima facie problems with the FHCF. First, offering coverage at below-market rates is a recipe for trouble. Any business selling its product or service below the market value has the potential for failure. Second, the FHCF’s financial condition is weak. In its latest fiscal year, ending June 30, 2022, it took in premiums of $1.2 billion and paid out $1.1 billion in hurricane losses, largely stemming from continuing payments connected with 2017 Hurricane Irma. If the FHCF effectively broke even in a hurricane-free period such as 2021, four years after Irma, the wrath of Hurricanes Ian and Nicole in 2022 will certainly rattle its cage.
What’s more, the FHCF performed poorly on the secret ingredient of insurer success—investment income. In its most recent fiscal year, the FHCF had a loss of $412 million on its investment portfolio, following a meager $34 million gain in the prior year. Insurance companies ordinarily generate investment income on the order of 10 percent of their premium, which in the FHCF’s case would be over $100 million.
Citizens is a state-run insurer, and the insurer of last resort for Floridians and their agents who cannot access reinsurance in the private company markets. In contrast to the FHCF, Citizens’ financials are in much healthier shape. For example:
- Citizens has $9 billion in assets, and took in $1.8 billion in 2021. Such extremely low leverage is conservative and healthy.
- Citizens’ investment portfolio generated $164 million in investment income, down from $254 million in the prior year. This was not a great return, but a nine-figure investment income is
- Citizens protects its balance sheet with significant reinsurance purchases. In 2021, it paid $322 million for FHCF reinsurance, up from $126 million in the prior year, and it paid $400 million for private market reinsurance, up from $210 million in the prior year.
- Citizens’ expense ratio (expenses divided by premium) is 14.7 percent, about 10 percentage points lower than most insurers.
There will be numerous ideas and solutions proposed at the special legislative session—some of them good and some not. As we have seen, Citizens is not the problem, so one should not throw out the baby with the bathwater. The same cannot be said for the FHCF, whose position will be weakened as it pays losses out to the long roster of Florida insurers, all of which bought reinsurance from the fund. Bottom line: leave Citizens alone for now and fix the FHCF somehow.
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