Call to privatise U.S. flood insurance programme could lead to flood bonds

Lately there has been a call from some industry figures to end the U.S. subsidised, public National Flood Insurance Programme and to privatise flood insurance to allow private reinsurers and the capital markets to provide risk transfer solutions instead.

The latest calls for privatisation came from Frank Nutter, President of the Reinsurance Association of America and Bradley Kading, President of the Association of Bermuda Insurers & Reinsurers last week at a private forum held by FEMA. A joint statement was issued which called for gradual privatisation to allow the private reinsurance market to assume the flood risk over time.

One of the problems is that the NFIP premiums paid are perhaps not based on the same level of analytical modelling that private re/insurers would subject them to, which could equal premium rises were it to go private. However, that has lead to the programme being criticised for being under-equipped to deal with major catastrophe which renders it a fairly impotent source of risk transfer.

A meeting on December 9th will raise these questions again and it will be interesting to see whether the NFIP survives or whether a plan is put in place for its gradual transfer to the private market.

Interested re/insurers are keen to get involved and talk of more accurate premiums, better risk modelling and the potential to transfer flood risks to the capital markets. Flood basins and the associated flooding risks have been modelled for some time and those models could be used to create capital market risk transfer instruments such as catastrophe bonds which would be triggered by water rises or even rainfall within the basin catchment area. If the U.S. national flood risk could be transferred to the capital markets it would create a new source of diversified capital for insurance-linked securities investors. It may not be unreasonable to think that we could see a flood risk catastrophe bond before too long.