David Snyder, Vice President and Assistant General Counsel of the American Property and Casualty Insurance Association, Aaron Koch, Principal and Consulting Actuary at Milliman, and Annie Shen, Actuary at Milliman, participated on a panel moderated by Katheleen Ehrhart, a partner in the litigation practice at Smith Gambrill Russell, that examined lessons to be drawn from the current crises in the California and Florida property markets. Ms. Ehrhart kicked off the session by noting that insurers are increasingly exiting these markets or becoming insolvent, leading to less choice and higher rates for policyholders. The panelists identified the likely causes leading to these disruptions, the current measures being taken to stabilize the markets, and the potential solutions being considered to resolve the underlying systemic issues.
First, Mr. Snyder provided some context for the issues currently plaguing California and Florida. He first noted that there is virtually no place in the United States that is spared from significant natural catastrophe exposure and that there is a constant increase in the cost of natural catastrophes. California and Florida are not only particularly exposed to natural catastrophe from a geographical standpoint, they also happen to be two locations where people want to live. These factors, taken together, create significant property exposure in California and Florida.
Next, Mr. Koch discussed some of the factors leading to the current state of the property market in Florida. He noted that the Florida property market is dominated by small companies, which can increase volatility. He further observed that over the last two years, approximately ten companies that were formed to write property business in Florida have become insolvent. Further, although Florida’s residual carrier, Citizens Property, made an aggressive attempt at depopulation during the decade prior to Hurricane Irma in 2017, the number of Florida policies being placed in the residual market has increased over the past few years.
Mr. Koch cited the litigation environment in Florida as a leading cause for the quandary in the Florida property market. While Florida has 7% of US property claims, it has 76% of the litigated property claims in the US. This disparity likely stems from Florida’s historical laws concerning assignment of benefits to contractors, one-way attorney’s fees, and contingency fee multipliers. These legal factors have created a tail for property business that makes property claims look more like liability claims. Social inflation has also impacted the Florida property market.
Ms. Shen outlined the factors that have negatively impacted the California property market. She first noted that wildfires have increased in frequency and severity over time, pointing out that with the increased property development in California, there has been an increasing trend in the number of structures burned.
In addition to these factors, Ms. Shen explained that the regulatory environment in California has also contributed to the lack of profitability in the market, noting high costs and a number of restrictions on rate-making that limit insurers’ ability to reflect business costs. Specifically, Ms. Shen noted that high indicated rates are not getting approved, and that approved rates may not be sufficient. She also cited the extended length of time that California takes to approve rate filings; the average time to review filings in 2022 exceeded a year. Further, California insurers have been required to introduce wildfire discounts without being permitted to compensate for those discounts in their base level rates. Nor can insurers recover for reinsurance expense in their ratemaking. Finally, California does not permit the use of a modern prospective catastrophe model for wildfire. Instead, insurers are required to use a twenty-year average of actual catastrophe losses, which does not reflect the increased frequency and severity seen in wildfire trends.
Given these rate-making challenges, insurers pull out of the California property market or restrict new business writings. Homeowners, therefore, have more difficulty finding coverage and are increasingly turning to the FAIR Plan, California’s residual market. The policy count for the FAIR plan has grown from 175,000 to 266,000 since 2019.
Mr. Snyder then offered some insight into how the issues that have arisen in the Florida and California property markets might be avoided in the future, focusing on the need to identify negative trends at an earlier stage and the need to educate and work with the regulatory community earlier in the process. He articulated that there is a growing sense that these losses are not just an insurance issue, but they impact all layers of government, and the public needs to buy-in to certain changes
Mr. Koch and Ms. Shen then discussed potential solutions being implemented in Florida and California, respectively. With respect to Florida, Mr. Koch pointed to additional public reinsurance for companies and changes in the law made by the Florida legislature in 2022. The changes included, among other things, a prohibition on the assignment of benefits to contractors, the repeal of attorneys’ fees multipliers, and shortened claim reporting deadlines. Mr. Koch stated that the sense is that these reforms have produced enough confidence to stabilize the Florida property market, but noted that, even given these reforms, Citizens’ property rates are still almost 60% below the actuarially-indicated rates.
With respect to California, Ms. Shen highlighted the passage of Executive Order N-13-23, which charged the California Department of Insurance to take regulatory action to strengthen and stabilize the California homeowners market. The Department thereafter announced a number of actions intended to implement the Executive Order. Included among these actions is the transitioning of property policies to the regular insurance market from the FAIR plan, with insurers being required to write business in high wildfire risk communities based on their market share. In addition, the Department indicated that it would expedite the approval and use of prospective catastrophe models for wildfire, would explore the incorporation of reinsurance costs into rate filings, and would improve its efficiency with respect to the approval of rate filings.
Finally, the panel weighed in on lessons learned from the crises in Florida and California. The panelists agreed that both markets were beginning to see a regulatory/political response, although that response was at its initial stage in both cases. They noted that the ability of insurers to charge a rate commensurate with their risk was the most critical factor and emphasized the need to educate regulators so that insurers and regulators could then work together to modify rates and coverages in a sensible way. The panel stressed that insurers should not take advantage of changes to rates or regulations regarding acceptable catastrophe models. Finally, the panel recommended that insurers work to educate the public to help them address the underlying causes of loss, including making improvements to land use and building codes around the country.
