The California Earthquake Authority (CEA) has reached a new milestone in its use of the private risk transfer markets, as its reinsurance program surpassed $8 billion in size for the first time after the January renewals, with further growth to come as the insurer targets $10 billion of protection by 2022.
The CEA, the not-for-profit residential earthquake insurance provider in the state of the same name, has been steadily growing the size of its reinsurance program in recent years, with catastrophe bonds through its so-called transformer program playing an increasingly important role.
In fact, the CEA’s reinsurance program provided only $2.1 billion of coverage way back in 1997, growing to just $4.5 billion in size almost two decades later by January 1st 2016, then growing 20% to $5.4 billion by the end of that year, followed by another 15% to $6.3 billion at January 1st 2017, and now the CEA’s reinsurance program has increased in size by 27% in just one year, to reach a record size of $8.02 billion after January 1st 2018.
The capital markets participate in the reinsurance program through investing in these catastrophe bond issues and also through some collateralized reinsurance participation in the program as well.
In fact, catastrophe bonds have played a relatively consistent role in the CEA’s reinsurance program and after its latest issuance, of the $400 million Ursa Re Ltd. (Series 2017-2) transaction in November 2017, the CEA now benefits from an impressive $2.075 billion of cat bond backed reinsurance protection (according to Artemis’ data), accounting for 27% of its overall program.
The share of the program made up of cat bonds has increased as well, over time, from 20% of the program at the end of 2014, steadily increasing over the coming years to now provide 27% of the CEA’s reinsurance coverage.
We understand from sources that there are likely more catastrophe bond issues to come this year from the CEA as well, so depending on terms and pricing we could see that percentage rise further this year, given the competitive pricing seen from cat bonds issued so far this year.
Of course the reason for the strong growth in reinsurance protection is that the CEA now insures more Californians against earthquake risks than ever before, having recently reached a new milestone insuring over 1 million homes across California.
At the same time the exposure that the CEA takes on has increased exponentially, from $131 billion at its launch in 1996, to a huge $436 billion by the end of 2017.
The CEA expects uptake of its insurance policies to continue, driving up its exposure as well, and so forecasts and targets an increasing use of reinsurance coverage to manage this over the coming years.
In fact the insurer is looking to save money on its reinsurance spending, with proposals for new legislature that would put in place post-event assessments that could replace some of the reinsurance tower and save the insurer money.
But this is a restructuring plan, rather than a long-term plan to replace reinsurance and in fact, over time, the CEA expects it will need to grow its reinsurance program to support the needs of Californians, although it could shrink a little at first when new assessment proposals are adopted.
The CEA believes it could have as much as $9.2 billion of reinsurance and catastrophe bond coverage in force by the end of 2018, another jump of 15% in its reinsurance provisions.
But then, if the new assessment legislation comes into effect, the CEA could downsize its program by as much as $2.5 billion over the next year or so, as funding comes into its plans from the assessments as well as a new surcharge.
But reinsurers and catastrophe bond investors should not worry, as over the next four years the CEA believes its reinsurance and cat bond program could grow back to as large as $10 billion by 2022, alongside growing funding provisions from assessments as well, helping to finance a significant increase in its exposure as more homeowners take up earthquake insurance cover in California.
By bringing the new sources of funding into its tower, while rationalising and then beginning to grow again the reinsurance and cat bond program, the CEA believes it could save as much as $200 million in expenses by 2022, half of which would go to support rate stability in its insurance products and the rest to a California Natural Catastrophe Resilience Fund, designed to promote and support resiliency projects statewide against a range of natural perils, not just earthquake risks.
As the CEA transforms its funding sources the use of reinsurance and cat bonds could fluctuate somewhat over the coming years, but with growth expected over the longer-term the reinsurance and capital markets are destined to provide even greater support to Californians need for earthquake insurance cover over the coming years.
See where the California Earthquake Authority (CEA) sits in our interactive chart and leaderboard of catastrophe bond sponsors.