Reinsurance costs a “financial shock”, Demotech warns of Florida downgrades

Demotech, Inc. has issued a warning that some Florida insurance carriers are facing serious challenges, with a number expected to be downgraded, while others could enter run-off if they cannot successfully negotiate a way forwards or attract the necessary capital.

The change in the cost of catastrophe reinsurance in the last year or so is a factor that has caused a “financial shock” to carriers in Florida, as reinsurers demanded higher rates for renewal programs.

This “financial shock” is expected to persist into 2020 and with the January reinsurance renewals having seen rate increases to loss impacted and poor performing business, there is every chance that the Floridian primary insurers will be called on to pay even higher price for their reinsurance protection at the mid-year 2020 renewals as well.

But reinsurance alone is not the driver of Demotech’s warning on performance and potential downgraded, with a myriad of factors having affected the performance of insurance carriers in the state of Florida.

The rating specialist explains that the Florida insurance market has witnessed a decline in investor capital in recent years, with insurer investor capital appearing to be exiting, not entering, Florida.

That’s a significant issue, as carriers are reliant on access to cheap debt and other investments to maintain the levels of capital they require to sustain their business models.

At the same time, debt levels are now “burdensome” for many, with both the amount of debt taken at the holding company level as well as its cost now weighing on carriers in Florida.

Loss activity and prolonged settlement of claims from hurricanes has also pressured insurance carriers, as too has continued claims related inflation not least from assignment of benefits (AOB). While legislation hopes to stem some of this, Demotech notes that while this will help in the long-term, it won’t be sufficient to save some carriers from facing downgrades.

Rate revisions may not have been sufficient and at the same time the operations of Florida Citizens, which Demotech describes as being “too competitive for a market of last resort”, has helped to suppress rates to a degree in the state.

Some insurance carriers in Florida have generated an acceptable income level and are stable, Demotech says, while more have access to enough capital to sustain them and cope with the financial traumas the rating specialist describes.

“These carriers have the financial capacity to continue to execute their business models,” Demotech explains, saying that this cohort will get their ratings affirmed.

Others require a thorough analysis of the leverage created by debt and debt service to ensure they can manage to sustain their business models, while some may need to refinance debt at lower rates, or find other sources of capital to continue.

There could be an opportunity for some of the ILS fund managers that invest in private debt for insurance carriers here, it seems.

Others may look to sell off parts of their operations, rather than recapitalise as part of their year-end 2019 processes.

For the rest, Demotech warns darkly that, “A number of carriers are unable to pursue their business model, cannot or will not attract capital, cannot or will not add debt, or have been unable or unwilling to find a suitor.  These carriers may ask the State of Florida to permit them to voluntarily runoff outstanding claims.  Policies with an unexpired term may or may not be sold to a third party.  These carriers will be downgraded.”

“This week, we will begin to issue statements on many of the 46 Florida-focused carriers. The majority of the carriers will likely be affirmed. However, to avoid downgrades, some carriers may abandon the necessary refinements to their business models and sell their entities or be acquired. Others will be downgraded,” Demotech further explains.

Reports suggest somewhere from 10 to 20 carriers may face negative rating actions as these pronouncements emerge.

Challenging conditions persist for Floridian insurers, but at the same time there has been more evidence of national and global carriers writing more business in the state, attracted by higher rates.

But the business model of carriers who underwrite concentrated portfolios of risk focused on Florida and surrounding coastal wind requires access to efficient capital in some form or other.

Which with reinsurance rates on the rise, means that source has become increasingly challenging for very traditional business models to access efficiently enough, contributing to the pressures being felt which are now set to drive the expected carrier downgrades.