Flood catastrophe bonds could be the future of the NFIP

by Artemis on March 8, 2011

The future of the National Flood Insurance Program (NFIP) has been in the balance for some time. There have been repeated calls from reinsurance industry figures and also some politicians to end the public subsidised  NFIP and to allow the private reinsurance and risk transfer markets to step in.

We wrote back in December about joint comments from Frank Nutter, President of the Reinsurance Association of America (RAA) and Bradley Kading, President of the Association of Bermuda Insurers & Reinsurers when they called for the gradual privatisation of the flood program. Now those calls for privatisation have been repeated.

Draft legislation to reform the NFIP was released by House Republicans at the weekend. The draft asks for FEMA to conduct studies on the best way to reform and potentially privatise the NFIP and to report their findings to Congress within 18 months.

Now that a formal process has been started to look into privatisation we expect greater interest from the catastrophe bond market to emerge. Frank Nutter is again (as reported by PropertyCasualty360.com) defending the draft bill and to have said; “The RAA believes that the NFIP could address its volatility and extreme-event exposure and reduce the dependence of the program on taxpayers and federal debt through risk transfer to reinsurance from private-market capital providers”. He also said that the NFIP could turn to the reinsurance and capital markets to place catastrophe bonds to supplement reinsurance capacity. “Both markets have significant excess capacity, and [I] believe that flood risk can be reinsured or transferred into capital markets,” Mr. Nutter said.

Cat bonds could certainly help by providing certain layers of the cover required for the NFIP on an industry loss basis. We think it unlikely that accurate enough weather condition and river level measurement systems exist nationwide in the U.S. to structure a cat bond in any way other than against an industry loss trigger. It is however highly likely that cat bonds will play a part in whatever format the NFIP evolves into in the future.

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