Texas Windstorm Insurance Association’s (TWIA) plan to pursue its first catastrophe bond issuance in 2014, which we covered here yesterday, has been approved by the Actuarial & Underwriting Committee and a proposal will be sent to the TWIA board.
The meeting we mentioned in that article took place yesterday afternoon in Austin, Texas and saw the TWIA Actuarial & Underwriting Committee come together to discuss proposals for the organisations 2014 reinsurance and risk transfer coverage as well as pre and post-event bonding options.
This is the third year running that TWIA has discussed the potential issuance of a catastrophe bond as part of its reinsurance program. In 2014 the cat bond proposal appears more likely to come to fruition, having been approved yesterday by 5 votes to 0 at the committee meeting.
Once again TWIA’s broker Guy Carpenter was present, providing expert advice on the organisations options for traditional reinsurance, fully-collateralized reinsurance options and catastrophe bonds as well. The broker was very clear when stating that the market is extremely receptive to new cat bond issues right now and that for whatever mix of reinsurance TWIA chose to pursue it is a buyers market at the moment.
TWIA’s exposure has increased modestly from last year, up by single figures and the organisation has a desire to acquire as much reinsurance protection as it can to narrow the gap between where its risk transfer currently stops and where the expected loss from a 1 in 100 year hurricane sits.
The 1 in 100 year return period sits at about $4.7 billion of losses to TWIA, but its 2013 reinsurance program layer attachment point is at $1.7 billion, providing a $1 billion layer of protection on a per-occurrence basis, up to $2.7 billion where the reinsurance exhausts. The 2013 program includes some collateralized covers but is predominantly traditional reinsurance with no cat bonds included.
The TWIA actuarial committee discussed structural options for the 2014 reinsurance program and clearly have a preference to take the whole program to an annual aggregate structure, which Guy Carpenter said might be a little more expensive but provides TWIA with a much more responsive reinsurance program.
An aggregate program would provide TWIA with protection against more frequent smaller tropical storms or hurricanes, as well as providing some protection against smaller windstorm events causing hail or tornadoes. With TWIA’s stated aim to make itself more immune to losses, better protected and less reliant on having to make assessments or issue further bonding after events, the aggregate option seems most sensible.
Guy Carpenter representatives recommended a mix of traditional reinsurance capacity and fully-collateralized cover from the capital markets in the form of a catastrophe bond. The broker said that it would not look to replace all of TWIA’s traditional reinsurance with capital market capacity as it recommended maintaining the relationships with the tradtional reinsurance market, but the addition of a cat bond would help to reduce TWIA’s counterparty credit risk and diversify its sources of risk transfer.
Cost is clearly a factor for TWIA and Guy Carpenter made it clear that the current state of the reinsurance market, as well as the appetite that capital market investors have for catastrophe risk, make it likely that costs will be 15% or so lower than a year earlier. The broker said it would look to drive down overall costs on the program while increasing the amount of cover it afforded to TWIA.
Guy Carpenter recommended an indemnity trigger catastrophe bond for TWIA, with an aggregate structure providing the best protection. Underlying losses on covered policies would be subject to a gross-up factor in order to try to compensate TWIA for the costs of loss adjustment for an indemnity bond, given its nature as a public entity and the resulting need to keep costs down.
Guy Carpenter gave two examples of a new reinsurance program structure. It proposed raising the attachment point of the program to $1.9 billion while expanding total reinsurance capacity to $1.25 billion, with an estimated $250m coming from a catastrophe bond.
In 2013 TWIA budgeted $106m for the $1 billion excess $1.7 billion per-occurrence layer. For 2014, a per-occurrence reinsurance program of $1.25 billion excess $1.9 billion, including the $250m cat bond, would be estimated to cost TWIA $103m, so more cover for less cost. An aggregate reinsurance program of $1.25 billion excess $1.9 billion, again including the cat bond, would be estimated to cost TWIA around $112.6m.
Guy Carpenter noted that the catastrophe bond would actually help to bring down the pricing on the layer and if it wasn’t included the cost would be at the upper end of its estimates. This shows the value of including a cat bond for TWIA, not only could it lock in the currently attractive pricing but it could also help to bring down its overall costs.
The aggregate pricing would provide TWIA with a more responsive reinsurance program which would take it closer to its stated aim of narrowing the gap to the 1 in 100 year storm. The $1.25 billion of protection would take TWIA to $3.15 billion of protection, including its various classes of bonding and the catastrophe reserve trust fund which sit below the reinsurance layer. That would be a jump from the 2013 program expiration which covers it up to a 1 in 50 year storm to a 2014 program covering TWIA to a 1 in 60 year storm.
The TWIA Actuarial & Underwriting Committee discussed the options and were receptive to the idea of pursuing a catastrophe bond as part of the 2014 reinsurance renewal. The discussions moved towards raising the attachment point of the reinsurance layer further, while buying the maximum Class 1, 2 and 3 securities and bonding to enable it to lift where the reinsurance attachment point lies.
By raising the attachment point the costs could come down even further, as TWIA will be buying reinsurance protection for more remote risks. The decision was taken to take a proposal to the TWIA board to maximise the bonding and securities purchases including a new $500m layer. That will enable the reinsurance layer to be raised to above an attachment of $2.25 billion, while giving TWIA the freedom to buy as much reinsurance coverage as it can for its available budget.
The final proposal, which was unanimously voted and approved to be sent to the TWIA board, would see TWIA buying as much aggregate reinsurance protection as it can from a combination of traditional reinsurance and catastrophe bonds, above an attachment point of $2.25 billion up to a maximum budget spend of $118m.
The budget and the raised attachment point should mean that TWIA can buy more than the $1.25 billion of cover that Guy Carpenter proposed. The greater the size of any catastrophe bond purchased the cheaper the overall layers cover could become for TWIA as well. If the cat bond proposal is approved by the board of TWIA it will be interesting to see how the cat bond versus traditional reinsurance mix is divided.
One final factor that may affect the TWIA boards decision on pursuing a catastrophe bond in 2014 is the subject of duration of any 2014 reinsurance. TWIA faces a legislative session every two years which occurs during the time that its reinsurance renewal is in the market. This can make the renewal more difficult, as it did in 2013, with decisions made having to second guess the outcome of the legislative session.
So TWIA discussed buying shorter, or longer, duration reinsurance to enable it to move to a January renewal. However the decision sent to the board was to buy a 12 month reinsurance policy. Whether that also applies to the cat bond is uncertain, but the proposals discussed in yesterday’s meeting seemed to revolve around a three-year cat bond issuance.
So, if TWIA moves ahead with this proposal and it passes the board, we could see its first catastrophe bond issue this year and it might be a $250m, or larger, annual aggregate indemnity cat bond transaction, attaching somewhere in the layer above $2.2 billion of losses to TWIA.
That would bring another of the public entity or residual market insurance organisations into the catastrophe bond market, to join those already successfully utilising cat bonds as ever-growing components of their risk transfer.
No doubt the Texas Windstorm Insurance Association (TWIA) board will be aware of the fact that Florida’s Citizens Property Insurance is in the process of issuing what will be the biggest catastrophe bond ever issued if its $1.25 billion Everglades Re 2014-1 comes to market successfully. That, surely, has to be a very strong motivator for the TWIA board to finally issue its first catastrophe bond in 2014.