CEA targets record risk transfer in 2021, but cites rising reinsurance costs

The California Earthquake Authority (CEA) is targeting to increase the size of its risk transfer and reinsurance program to a new high of almost $9.8 billion of limit in 2021.

The CEA’s reinsurance and risk transfer program, which includes a significant contribution from catastrophe bonds, ended 2020 at around $9.15 billion in size.

The CEA’s reinsurance and catastrophe bond risk transfer program had hit a new high of almost $9.6 billion in October 2020, as the organisation maintained its minimum coverage target throughout the year of being financed for a 1-in-400 year loss event.

But a significant amount of maturing catastrophe bonds and traditional reinsurance layers meant the program shrank by the end of the year.

As we’ve been reporting, the CEA secured another $215 million of catastrophe bond backed earthquake reinsurance protection with a recent Ursa Re II Ltd. (Series 2021-1)  issuance, so that has definitely lifted its overall protection slightly.

January reinsurance renewal transactions will also have lifted the CEA’s overall reinsurance and risk transfer further and documents seen by Artemis show that the target is to have almost $9.8 billion of risk transfer limit in place in 2021, which will take the CEA’s protection to another all-time high.

However, a proposed rate filing cites increasing reinsurance costs as a reason it needs to secure higher insurance rates on the front-end, as the hardening global reinsurance market and higher cat bond spreads lift expenses for the insurer.

CEA staff are recommending a 3.8% front-end rate increase from January 2022, explaining, “The rate adjustment is needed to cover the increased costs for risk transfer (reinsurance) as a result of both the increased need for risk transfer associated with CEA’s continued policy and exposure growth and the increased costs of that risk transfer. The rate adjustment will be applied uniformly to all policy types and coverages.”

The insurer’s staff also explained that the costs of risk transfer and reinsurance have risen significantly, while its rates are still those developed and approved in 2017 and 2018.

Those rates had assumed that the cost for risk transfer would be, on average, 4.38%, the staff said

But, based on the CEA’s January 1st 2021 risk transfer and reinsurance program, the average cost is now actually 5.22%.

The difference equals an extra $77 million in risk transfer expense at January 1 2021 risk transfer limit levels, the CEA’s staff explained.

The CEA continues to operate a risk transfer policy that seeks to cover at least a 1-in-400 year loss event, but with its policy count rising fast this means an increasingly large amount of reinsurance and insurance-linked securities (ILS) capital is needed.

So, for 2021, the actuarial assumptions suggest a risk transfer program providing almost $9.8 billion of limit, which is a record high for the CEA.

The CEA’s policy count remains at near all-time highs and further growth is anticipated, so as the CEA continues to target a certain return-period level of risk transfer protection, it suggests the overall reinsurance and cat bond program will expand further this year and likely beyond.

The CEA’s exposure was up around 10% in 2020 and it was forecast to end the year with some $578 billion of exposure in-force, up from $525 billion at the end of 2019.

By the end of 2023, forecasts suggest the CEA’s exposure-in-force will rise significantly to a huge $727 billion, meaning reinsurance and catastrophe bond use is only going to increase, as its target level of protection remains relatively stable.