What happens now Florida’s insurance capital stack is decimated?

The Florida insurance market capital stack is likely decimated after hurricane Ian’s landfall last week, raising the question of how this marketplace replenishes it and also highlighting the need for access to efficient sources of capital.

But that access to capital can’t be at any price and someone is going to have to pay something risk commensurate to get access to it.

Which is a discussion for another day, about trimming the fat out of the insurance risk-to-capital chain, but right now more immediate pressures may emerge, as Florida’s insurance market is looking at a serious depletion of surplus and capital.

Let’s work through the industry stack, starting with insurer capital.

The Florida specialists are going to have been seriously impacted by hurricane Ian and it’s not expected that they’ll all survive this event.

Exactly who will fail is harder to tell at this stage, although names are beginning to be mentioned of which carriers might struggle and could end up under the watchful eye of the Florida Department of Financial Services (DFS).

There’s a strong opinion across the reinsurance and insurance-linked securities (ILS) market, among our sources, that a significant percentage of Florida carrier surplus is likely gone.

The way many carriers were levered, premiums to capital, suggests they just won’t have the resources to get through an event of the magnitude of hurricane Ian.

Add to the capital impact to Florida’s insurance industry, the impact to the Florida Hurricane Catastrophe (FHCF).

Many feel the FHCF could see its surplus depleted as well, with carrier losses expected to roll through many of the FHCF layers in their towers.

Analysts have highlighted the fact it can take time for the FHCF to recapitalise and rebuild its surplus, also that post-event bonding may not be cheap, easily secured, or a safe option for leaving a robust FHCF in place to support Florida’s insurance market.

The FHCF was formed effectively to extend the capacity of the Florida insurance market, with a reinsurance structure seen as the optimal way to deliver that with state backing.

But, if the FHCF’s resources and surplus capital are as eroded as some analysis suggests, that’s critical layers of carrier towers that may be shrunken next year, or even non-existent with the current mode of state support.

Adding to the potential woes for the state from the FHCF’s losses after hurricane Ian is the RAP fund, or the $2 billion Reinsurance to Assist Policyholders (RAP) program, which was enacted during the special session of the Senate towards the end of May.

Being a lower-layer, of sorts, to the FHCF, the RAP, or at least where it was taken up, is likely gone, due to hurricane Ian’s losses, as well.

Meaning even more capital replenishment is required.

All this is before we even begin to think about the Florida specific reinsurance capacity.

With industry losses suggesting a private market (ex-NFIP) insurance industry impact of $50 billion to $60 billion, a figure that is highly likely to be a little higher once all is quantified and inflated (or litigated), the reinsurance market will take its share.

Typically, reinsurance has been understood to take 15% to 20% of major insurance industry catastrophe losses, but in Florida that percentage could be quite a bit higher.

How many reinsurance towers will be blown through completely in Florida after hurricane Ian? The industry seems to be expecting a particularly heavy reinsurer burden, with of course a commensurate burden for insurance-linked securities (ILS) investors from catastrophe bond losses and other ILS structures.

Adding to the challenges after hurricane Ian, is the potential for a good deal of retrocessional capacity to also have been eroded, as well as third-party capital in reinsurer sidecars.

While this isn’t typically part of the Florida-specific capital stack, it is part of the industry’s stack that is very important in enabling reinsurers to write more cat risk, something which has trickle-down effects in supporting the rest of the industry.

There has been a significant amount of insurance industry capital destroyed by hurricane Ian, not to mention the economic loss that could be double the industry’s impact.

So the Florida capital stack has been truly decimated by this event, leaving us with questions over how it gets replenished.

On the insurer capital and surplus side, capital is going to cost even more than it did at mid-year, so those carriers needing to raise debt or other forms of capital, in order to trade-forwards effectively and/or survive, are going to have to pay for that.

On the FHCF and RAP Fund, is the state going to head to the volatile capital markets to try post-event bonding? It’s done this before and been lucky, but will the capital markets have the appetite and will the state want to pay those rates?

Reinsurance capital is going to become more costly, with the market likely to harden broadly again at the January 2023 renewals, but with a potentially very significant hardening expected for Florida and US wind exposed catastrophe programs.

How affordable is that going to be and how do carriers whose capital may have been depleted by hurricane Ian afford it, while raising new capital also costs a lot more?

On retro, the potential rate increases we’ll see at end of year are anyone’s guess, but we’re already being told some retro programs that were out in the market early this year are having to temper their appetites for cover and think about restructuring, or repricing already.

Retrocession capacity is likely to be even more scarce at 1/1 and obviously a lack of retro can trickle downwards to affect reinsurer appetites and capacity as well.

So, while the erosion of capital that has historically supported Florida’s insurance market by hurricane Ian is potentially massive, the effect of less and more expensive retro and reinsurance coming the other way could further squeeze the carriers.

All of which really does drive home the fact that insurance and reinsurance markets need access to capital markets, especially when it comes to the world’s peak catastrophe zones.

The question then, is whether investors will be ready to support Florida, through whatever structures are most-compelling and seem to offer the best chance of earning a return over the longer-run.

Catastrophe bonds seem an area of potential promise, as while hurricane Ian may end up being one of, if not the, biggest single event losses for the cat bond market in its history, the losses will likely still be within the bounds of expectation given the severity of the event.

Which means the cat bond market may be one segment of the market to look to, for support in replenishing capital for Florida’s insurance marketplace.

Of course raising capital may be a challenge and cash levels are still low, while capital gained via some maturities may now be postponed, so no guarantees on how the pipeline turns out.

Other forms of ILS (private and collateralized reinsurance) may also be appealing places to look, as capital providers.

But here, the ability to raise the necessary capital may be far more constrained than in cat bonds, given the experience investors have had in recent years, except for those strategies that have the ability to avoid too much trapped collateral impact for their investors and have structured themselves better to deal with the larger losses.

The opportunity is going to be particularly significant, if you’re able to provide efficient risk capital to support the Florida insurance market’s recovery (in whatever form).

But that will only be on investors terms. You’re going to hear a lot about the need for risk commensurate pricing  and providing the ability for investors to earn a return on capital over the longer-term, going forwards.

Finally, we’re likely to be banging on about efficiency of capital I feel over the next year, as it’s surely time for more discussions about how to reduce the fat in the risk-to-capital chain.

Ultimately, we need to make risk capital more readily available and in abundance. Florida is a ground-zero for US hurricane risk, but it’s not the only one for peak catastrophe perils, nor for climate affected perils. Capital is needed in many more regions of the world.

Risk capital is key to the survival of Florida’s insurance market and that has significant ramifications for its population.

While hurricane Ian decimates the capital stack for that state, shouldn’t we be looking at how to lower that cost-of-capital, perhaps adjust market structure, so in replenishing much more of it can be injected to problem regions and still expect to make a reasonable return (over the longer-term horizon)?

Read all of our coverage of hurricane Ian, and our analysis on the potential market losses, here.