TWIA Cash Position Not Improving

 $443 million in cash and short term assets

In a recent blog entry, I attempted to estimate the amount of cash the Texas Windstorm Insurance Association had in its operating account.  I said TWIA’s cash position was likely to be between $400 million to $700 million after the recent Ike settlement of $135 million was taken into account. Thanks to a public information request from Fox 26 TV’s Greg Groogan we now have a better fix.  If anything, I was a little optimistic.

TWIA has $443,453,000 in cash and short term investments, little changed from its position at the start of the year.  Its assets are down to $444,342,000.  But those figures are before  consideration of the $135 million Ike settlement, the so-called “Mostyn settlement.” They are also before TWIA spends an anticipated $100 million or so (in cash) on reinsurance, The figures are both from the end of April, 2013. If funding of the Ike settlements comes from operating funds or TWIA succeeds in obtaining reinsurance, that figure will likely be lower shortly.  If the Ike settlement instead comes from the Catastrophe Reserve Trust Fund, that $180 million fund will be significantly depleted.

The rest of the story on the TWIA cash position and finances

There are at least two other pieces of information that will be useful in assessing TWIA’s position as hurricane season moves forward. They may also help Governor Perry get from “certainly possible” to “yes” in considering requests that he convene a special session of the Texas legislature to address windstorm insurance reform.  What happened to the effort to spend $100 million or so on reinsurance?  Did they acquire it and on what terms?  Second, what has happened to the effort to prepare for post-event bonding now that former Commissioner Eleanor Kitzman authorized TWIA to do so?  Unless both of those efforts are particularly successful, however, I stand by my assertion that TWIA may well have little more than $1 billion in actual cash to pay claims on $80 billion worth of exposure. Moreover, the reinsurance doesn’t do as much good as it could, if TWIA can’t sell all of its authorized post-event bonds.

So, in this case, no news — or no new news — is bad news. If something like Hurricane Ike hit — a Category 2 storm in a populated area — TWIA policyholders might get only 40 cents or so for each dollar of legitimate claims. There would be no protection from the Texas Property & Casualty Guaranty Association. There would be no lawful obligation of the state to help out. Instead Texas would be left with a hope.  Perhaps the state legislature would meet swiftly and agree on a plan (with a 2/3 majority) to come up with billions of dollars  to help bail out a devastated coast.  As I recently said to reporter Groogan in response to Senator Larry Taylor’s understandable expression of such a hope:  “Good Luck.”

Footnote 1: Say what one will about TWIA and its history, I have again found them to be responsive over the past year to public information requests.  That helps build some trust.

Footnote 2: Remember State Representative Craig Eiland’s claims that TWIA could and should assess insurers today for Hurricane Ike losses and buttress in Catastrophe Reserve Trust Fund?  I’ve found a longer statement of his position here.  It’s such a mixed picture.  On the one hand,  outgoing Representative Eiland has great information on the timeline. He presents a forceful case that TWIA had the information that would have justified a larger assessment on the insurers for Ike under the old law before a 2009 law took effect.  He is right that TWIA would look a lot stronger today with $780 million in its CRTF rather than the $180 million it has today. What Representative Eiland still lacks, however, is any legal theory under which such an assessment could occur today.  As has been discussed here at length, the law under which assessments were authorized was repealed — Representative Eiland sadly joining others who voted to do so.

Minor TWIA Bill Might Make It Through This Session

A bill making minor changes to the exposure of the Texas Windstorm Insurance Association passed the Texas House yesterday 134-11.  Before S.B. 1702 can become law, however, it will need to be reconciled in the closing days of the session with the substantially different version that passed the Senate last month.  Following amendments from Representatives Craig Eiland (Galveston) and John Smithee (Amarillo), the House version of the bill takes two actions with respect to Texas coastal building codes and insurance.  One of the provisions might increase TWIA’s claims in a tropical cyclone. The other might reduce it.

S.B. 1702 as amended in the House on motion of outgoing Galveston Representative Craig Eiland extends the time some coastal property owners with property that does not comply fully with building code standards a reprieve from somewhat tougher building standards until 2015.  Thus, for two more years during which TWIA’s reserves, even measured in the most optimistic way, are inadequate to pay for large storms, the House has apparently voted to actually increase TWIA’s exposure to risk.  This increase in exposure occurs because the premium surcharges on the these high risk properties are limited by the combinations of sections 2210.260(f) and 2210.259(a) of the Texas Insurance Code to 15%.  This value is likely insufficient to match the additional risk posed by these non-compliant properties.

A second provision of S.B. 1702 as amended in the House, however, one added by House Insurance Committee Chair John Smithee of Amarillo, might have a counterbalancing effect on TWIA exposure. It would condition eligibility for TWIA insurance after 2015 for homes and other property with values over $250,000 on compliance with stricter TWIA building standards. “Alternative certification” would not be available. There is no estimate that I have seen of the number or value of such properties that are currently insured by TWIA but out of compliance.

Based on my reading of the House Journal (pp. 3830-31), here’s the House version of the statute.

SECTION____.  Section 2210.260(d), Insurance Code, is amended to read as follows: (d)  Except as provided by Sections 2210.251(d), (e), and (f), a person who has an insurable interest in a residential structure that is insured by the association as of August 31, 2012, but for which the person has not obtained a certificate of compliance under Section 2210.251(g), must obtain an alternative certification under this section before the association, on or after August 31,  2015, may renew coverage for the structure.

 

SECTION ____. Subchapter F, Chapter 2210, Insurance Code, is amendedby adding Section 2210.2581 to read as follows:   Sec. 2210.2581. MANDATORY COMPLIANCE WITH BUILDING STANDARDS; CERTAIN STRUCTURES. Notwithstanding Section 2210.251, Section 2210.258, or any other provision of this chapter, after December 31, 2015, the association may not issue or renew insurance coverage under this chapter for a structure with an insurable value of $250,000 or more unless the structure complies with the applicable building code standards, as set forth in the plan of operation.

Although this bill may have some effect on individual TWIA policyholders, it is unlikely to have any significant effect on the ability of TWIA to pay claims following a major storm.  Absent a special session of the Texas legislature, it now looks as if that issue will need to await the 84th legislature two years hence in order to be addressed.  And whether S.B. 1702 passes or not, coastal Texas property holders will be at serious risk in the interim.

Texas Insurance Commissioner Eleanor Kitzman Confirmation in Doubt

Eleanor Kitzman

Eleanor Kitzman

Serious doubt exists today as to whether Texas Insurance Commissioner Eleanor Kitzman will be confirmed by the Texas Senate.  Her name does not appear on the list of nominees set for confirmation today and today appears to be the last day on which this committee will meet.  If so, and if, as I suspect, this is a response to her actions regarding windstorm insurance in Texas, this is a major loss for Texas. I would urge the legislature to reverse course. I would urge Governor Rick Perry and other leaders to speak up and support their choice.

But before voting to confirm someone with years of experience in insurance regulation and regarded highly enough nationally to head the critical Financial Regulations Standards and Accreditation Committee of the National Association of Insurance Commissioners (NAIC), legislators should at least examine the alleged marks against her.

The Rap Sheet

Count 1: Aggravated truth Telling

On or about June of 2012, Commissioner Eleanor Kitzman responded to a request from state Rep. John Smithee, R-Amarillo, by stating that the Texas Windstorm Insurance Association would be unable to pay claims fully if some Category 4 or higher hurricanes hit. This utterance challenged the prevailing wisdom that everything was fine with TWIA. It challenged the cultivated illusion that investors could regard collateral or property insured by TWIA as having the same degree of security as property and collateral insured by other Texas insurers. It threatened growth on the coast.

For this heresy, Commissioner Kitzman was welcomed back to Texas by Representative J.M. Lozano, R-Kingsville, with a request that she be investigated byTexas Attorney General Greg Abbott for breaking Texas law. And what law might it be that criminalizes speaking the truth? Lozano said her letter may have made a “misleading representation regarding the financial condition of an insurer” or somehow violated a state pledge not to impair collection of assessments on bonds that TWIA might issue following a major hurricane. Needless to say, the investigation requested by Representative Lozano, if one was ever done by our more level headed attorney general, went absolutely nowhere because Kitzman’s speech had violated no law and done no wrong.

Commissioner Kitzman compounded this alleged wrongdoing by then saying in her response to Chairman Smithee that, if TWIA did become insolvent, the state of Texas was under no legal obligation to make up for the resulting unpaid claims of TWIA policyholders.  Never mind the fact that absolutely no one has cited any legal authority saying that Texas has an obligation to pay such debts any more than obligations to guarantee other unpaid obligations throughout the state.  Never mind the fact that the Texas Property and Casualty Insurance Guaranty Association statute makes clear that it does not provide protection — at all — for government-created insurers. Never mind that Commissioner Kitzman is an experienced attorney and expert in insurance regulation who can read as well as anyone else and find no law creating such an obligation on the part of the State of Texas. Never mind, even, when I tell you as a professor of insurance law at a respected university that there is no such legal obligation. Commissioner Kitzman again disrupted the illusion that it was no more risky to invest on the coast of Texas than it might be to invest in El Paso or Dallas or San Antonio. And that, in certain parts of Texas, is apparently a crime or, if not, the basis for refusing to confirm an otherwise eminently qualified individual for a critical regulatory post.

But, of course, it goes beyond daring to question the assumption of security along the Texas coast or doing so just one time.

Count 2: Threatening A Trial Lawyer with reduction of fees

On or about March of 2013, Commissioner Kitzman asked the TWIA board to consider placing TWIA in receivership, the Texas equivalent of bankruptcy, following its filing of an annual report that showed that it was insolvent. Let us make clear what the consequences of such an act might be.

TWIA has been a boon to trial lawyers along the Gulf Coast.  In part because of extremely dubious adjusting practices by the Windstorm Association and, perhaps in part for other reasons, attorneys along the Texas coast have made hundreds of millions of dollars on contingency fees arising out of breach of contract, bad faith and statutory claims  against TWIA.  I am not, please note, saying there is anything wrong with this. Insurers do on occasion misbehave, perhaps particularly so, when they have not been properly capitalized. There need to be deterrents against exploitation of policyholders and there is nothing wrong with lawyers advocating zealously on behalf of their clients. And, in the interests of full disclosure, I worked at one time as an expert on behalf of one of those very plaintiffs firms evaluating what appeared to me to be inappropriate use of statistical evidence by TWIA in adjusting claims.

The key point, however, is that there are still a number of Ike claims pending.  In receivership, those claims might not be paid in full. They would have to be treated with at least some regard to future claims against an insolvent insurer. But, if those claims were not paid in full, not only would the claimants perhaps not receive perfect justice but the attorneys representing those claimants would likely suffer a commensurate reduction in their percentage interests (contingency fees) in the lawsuits. Both of those possibilities — a threat to people one has come to care about and a loss to one’s own pocketbook in the process — can make good people mad. And when those people also make hefty contributions to political campaigns, that’s almost a crime in Texas.

Moreover, consider the threat to the illusion of security compounded by going public with the idea that TWIA was insolvent, that future claimants might need to be treated fairly, and that TWIA might need to be placed into receivership.  Other Commissioners might have swept that issue under the rug or concocted ways to extract more money out of inland Texans to pay for future claims.  But not Commissioner Kitzman. By even uttering the word “receivership,” she compounded her earlier threat to the cultivated illusion of security that has fueled the addiction to continued development along the vulnerable Texas coast. Never mind that receivership might actually help TWIA recapitalize itself — indeed that is a major purpose of receivership — the public confirmation of TWIA’s desperate straits might make other lenders reluctant to lend and developers reluctant to develop on the strength of a TWIA policy.

Plea for Relief

There are, of course, other issues with Commissioner Kitzman’s tenure. Her views on balance billing rules in health insurance have stirred up controversy. And, because to my knowledge no public hearings were ever held on her appointment, we don’t know if there are issues pertaining to managerial competence or other matters. This is not a full accounting of her pros and cons.

From what I can see, however, Commissioner Kitzman has been an open and fair individual — yes one with a free market bent that one would have thought might have sold well in Texas.  She participated in creative efforts that did not constitute toadying to powerful private insurers to deconcentrate the risk now held in TWIA and get those insurers to start shouldering some of the windstorm risk but at fair prices. She’s presided over the growth in an outstanding web site that provides excellent information to consumers. She has been generous with her time to me, appearing in my insurance law class this fall to speak forthrightly with students. She’s been a leading figure nationally in insurance regulation.

I hope the Texas Senate somehow changes course and confirms her.  If not, I hope Governor Rick Perry figures out a way the State of Texas can continue to benefit from her expertise.  And, above all, I hope that legislators realize that shooting the messenger does nothing to protect the Texas coast or attract talent to critical fields in our state.

 

H.B. 3622: the hearing yesterday. And is it getting worse?

Here’s a link to the House Insurance Committee hearing of April 30, 2013. My extensive fan network can skip to minute 10 and watch until minute 26 as I take on the Bonnen Brothers and discuss H.B. 3622 with the rest of the committee. Actually, it’s worth watching the whole thing, particularly the dance around the issue of whether H.B. 3622 mandates “actuarially sound rates.”  Answer: it does not.

Dennis Bonnen

Dennis Bonnen

Greg Bonnen

Greg Bonnen

 

 

 

 

 

 

A few quick observations:

  • Unconfirmed, but there is apparently a major change in H.B. 3622 that makes the bill worse than I thought.  In fact, if what I am hearing is true, I might now answer the question posed to me by Representative Greg Bonnen yesterday somewhat differently about which was better, his bill, which I did not like, or the status quo, which I also do not like.  If it is true, as I heard after the meeting, and as Beamon Floyd, a lobbyist for major Texas insurers suggested during his testimony, that a modified version of the bill relieves TWIA policyholders from the obligation of actually paying for the reinsurance that protects them but foists that $100 millionish burden onto insurers statewide, that makes H.B. 3622 even more problematic. If that’s true — and I hope to find out later today — my better answer might then be: “I can’t say: they are both awful in different ways. The status quo is awful because it does not create a high enough stack to protect TWIA policyholders from insolvency. HB 3622 is awful because it makes non-coastal residents pay even more of the burden of insuring on the coast and thereby sends even worse signals about development patterns and hurts the poor off the coast even more.”
  • It is apparently very common practice in the Texas legislature for there to be proposed changes to a bill — a “Committee Substitute” that are not posted to the otherwise wonderful Texas legislative website.  As a result, “outsiders” such as me find themselves testifying about provisions that have either been replaced or supplemented.  Apparently, one can usually get the committee substitute by asking the bill proponent, but it might enhance democracy — and make testimony more relevant — if these substitutes were available electronically or in some regularized procedure.
  • I think I now understand Representative Craig Eiland’s ideas on trying to assess insurers for Hurricane Ike.  He doesn’t want to assess under the old law.  What he seems to suggest is a new law that would assess insurers for anything up to $600 million “for Ike” and to justify that assessment on grounds that the insurers “escaped” that responsibility under the old law when TWIA messed up and failed to assess adequately.  It’s an interesting idea and I too am troubled by the failure to assess under the old law. It is partly responsible for the current deficiency in the Catastrophe Reserve Trust Fund. But it is not an idea without legal risks. Although the ex post facto clause of the United States Constitution applies only to retroactive imposition of criminal liabilityHarisiades v. Shaughnessy, 342 U.S. 580, 594 (1952), that rule has some qualifications (Burgess v. Salmon, 97 U.S. (7 Otto) 381, 384 (1878)). Moreover, although what Representative Eiland is proposing isn’t quite a classical taking, it is a little disturbing.  The idea of taking money, even if for the public good, not as a condition of continuing to have an insurance business in Texas but as punishment for having previously done business in Texas and legally escaping what some wanted you to pay, may come close to constitutional prohibitions.  Make that assessment heavy enough and its relation to prior conduct or past legislative advocacy for the repeal of the old assessment law clear enough, and it might inspire the insurance industry to go out and find a good lawyer.
  • The Bonnen Brothers are both clearly intelligent people.  The absence of bombast in their tone is refreshing.

There will be more later today or tomorrow on the whole TWIA situation. Stay tuned as we head into the homestretch.

The destructive power of legislative fantasies

While fantasies may have their place in literature or otherwise, they are an unhealthy basis on which to premise legislative hearings. By distracting legislators from the real work that needs to be done before the end of session and providing false hope to constituents who need to take real action before the start of hurricane season, they are at least as destructive as any hurricane. That’s why the Corpus Christi Caller’s account this morning of yesterday’s meeting of the Texas Senate Committee on Business and Commerce should profoundly disturb residents of the Texas coast who depend on a viable windstorm insurance system. It should equally disturb those throughout the State of Texas whose fates are intertwined with their coastal friends. The meeting unfortunately perpetuates the absurdities of the meeting of the Texas Windstorm Insurance Association board that took place on Monday in which false villains were created and the very legislators who voted for the scheme that contributes to the current deplorable state of coastal windstorm insurance attempt through distraction to escape accountability.

Let’s identify the distracting fantasies.

Fantasy 1. TWIA can escape insolvency by assessing Texas insurers in 2013 for Hurricane Ike.

We’ve been through this before on this blog but let’s do it again now that we have an idea of the opposing arguments. The statute authorizing TWIA to assess insurers under former section 2210.058 of the insurance code was repealed in 2009 by section 44(2) of HB 4409. I’ll reprint that statute at the bottom of this post so you can see for yourself. Government can’t just take people or business’ property for the purpose of enriching others, no matter how worthy the cause, based on a repealed statute.  That’s called tyranny, and it is a violation of, among other things, the same Fifth Amendment protections that prevents the state from taking your house away to pay for worthy state expenditures and the same section 17 of the Bill of Rights contained in the Texas Constitution in which our state’s belief in those same principles is enshrined.

Until Monday, I had not heard a single argument opposed to the proposition that section 2210.058 no longer justified assessments against insurers. And, until I heard the contrary arguments, I was not prepared to say with 100 percent certainty that I was correct. But in light of a letter from several state representatives submitted to the TWIA board and made public Monday and in light of Representative Eiland’s reported comments at the hearing yesterday, we now appear to know the arguments of those who would contradict this apparently evident proposition. All I can say is, “that’s your best shot?” Here’s what they are apparently saying. If there are other arguments that I am missing, bring them on.

Argument 1: The potential to assess insurers is an “obligation, or liability previously acquired, accrued, accorded, or incurred under [a repealed statute] and is thus saved from repeal by section 311.031 of the Texas Government Code.” This argument misunderstands the nature of an obligation and a liability. An obligation or liability refers to something already existing.  Thus, if State Farm did not pay an assessment already imposed prior to the repeal, HB 4409 did not eliminate the already existing powers to force State Farm to pay. But at the time when the repeal took effect, there was no “obligation,” there was no “liability” to pay an assessment based on Hurricane Ike beyond the $430 million the TWIA board did assess in 2008. The fact that TWIA might have made an assessment is no more an “obligation” or a “liability” than a tax that the legislature might have but did not impose or a penalty that a court might have but did not impose.

Argument 2: There is some sort of contractual right on the part of 2008 policyholders to an assessment. I teach contracts and I like creative arguments.  But there is no such contractual right.  I’ve looked at TWIA contracts and there is absolutely nothing in those contracts creating a right to an assessment. Zero. Would a Texas legislator please show the public a TWIA contract containing a right to an assessment.

It is particularly galling, I might add, to contend, as Representative Eiland apparently did at the hearing yesterday, that TWIA policyholders deserve such a right (even if they don’t actually have one?) because of the premium they paid. In fact, precisely because of actions by legislators such as Craig Eiland,TWIA policyholders were not asked to pay a premium that would permit their insurer to be capitalized adequately and that might have provided better protection against hurricanes such as Ike. Instead, those legislators forced TWIA policyholders to become dependent on the TWIA board — a politically constituted body significantly chosen from the insurance industry — exercising their discretion to assess Texas insurers adequately in the event of a major storm.

Now, it may (or may not) be that the TWIA board breached some sort of duty to policyholders by failing to assess. A letter sent by coastal legislators earlier this week contains a disturbing account of board inaction. Unfortunately, however, the choice not to include a right to an assessment in the contract takes the matter out of contract claims against TWIA itself and put it into the murky area of fiduciary duty claims against TWIA board members. And, with fiduciary duty rather than contract providing the source of rights, the remedies become far more limited. Yes, you can sue a board member for breach of fiduciary duty, but section 2210.106 of the Insurance Code promised those board members immunity from suit unless one can show bad faith, intentional misconduct, or gross negligence.  And even if you get over this qualified immunity hurdle, I doubt there are too many board members who have $400 million lying around, the additional amount that TWIA officials recommended be assessed to pay for Ike.

Fantasy 2. Going into receivership would make it harder for TWIA to borrow money either before a hurricane or after a hurricane.

A lot of people at the TWIA board meeting Monday testified about the terrible problems that would be created if TWIA were thrown into receivership: sending the wrong signals, threatening continued development, threatening mortgage covenants, and threatening  the Texas economy (even national security) by challenging energy production on the Eagle Ford Shale. Unfortunately, these people have confused treatment with either symptoms or disease.  It is fine to be angry about cancer, but anger at being treated for cancer after a positive test comes back is misplaced indeed. And it’s insolvency here that is causing the problems and that is going to cause more problems. Receivership is a treatment for the disease of insolvency (here a disease caused by a combination of legislative dysfunction, human greed and fallibility, and a Category 2 hurricane that hit in a particularly vulnerable spot). In fact, although perhaps the matter could be deferred for a week or two to get plans in order, receivership makes a lot of sense. It would likely, as Representative Taylor appears to recognize, actually help most TWIA policyholders.

Here’s why.

Reason 1: Without receivership, there will be even less money available to pay claims for any hurricanes that hit this season. TWIA is being picked apart by claims for Hurricane Ike that are still pending.  Projections are that, even if no serious hurricane hits, TWIA will have even less money by the time the year ends. Thus, if Tropical Storm Barry or Hurricane Rebekah hits this season, there is going to be even less money around to pay the new claimants.  This is particularly true, if, as many fear, the recapitalization structure envisioned by the current Texas Insurance Code, is not going to work and if one of the bills pending in the legislature continues not to address issues for 2013. Those whose houses are decimated this summer by a storm are very much going to wish that someone through TWIA into receivership this spring so that 2008 policyholders and 2013 policyholders were treated more equally. So equity among TWIA claimants is one good reason for a receivership.

Reason 2: The recapitalization structure envisioned by the current Insurance Code may well  be more likely to work with a receivership than without one. Someone who lends money to TWIA now has to be concerned that their claims will be paid out of the same pot as Ike claimants or other TWIA creditors. Given TWIA’s insolvency, that is worrying. It’s likely to cause lenders to demand a particularly high rate of interest if they are willing to lend at all.  Although I am not certain of this, if Texas receivership is like federal bankruptcy, post-receivership financing even in a rehabilitation case can be separated out and given a higher priority that other claims.  That appears to be true in Texas insurance liquidation (section 443.154(j)) and I would be surprised if it were not true in a rehabilitation as well. Now, if the rehabilitation failed, such a refinancing might hurt existing (Ike) claimants of TWIA, and one can see how they might oppose a cavalier refinance on that basis, but if one wants to give TWIA some hope or making it through another hurricane season, giving new lenders some additional protection makes a lot of sense.  I don’t see how that can be done absent a receivership.

Reason 3: The parade of horribles brought forth by representatives of the coast at the hearing Monday was mostly about the problems created by insolvency, not by receivership.  Mortgage companies who have imposed covenants to maintain insurance on their borrowers don’t care as much about whether the insurer is in receivership as whether that insurer has enough money to pay claims that threaten their collateral. And, yes, workers in the Eagle Ford Shale and elsewhere will be hurt if their windstorm insurance premiums go up and their corporate employers don’t respond with higher wages, but what happens to premiums is not particularly dependent on a receivership.  It is dependent on an understanding of why TWIA went insolvent and the proposals pending in Austin to reform TWIA.

At best, the argument against receivership is thatTWIA, a so-called “residual market” carrier, was not really “insolvent” in the same way a private insurer would be if its liabilities exceeded its assets. That’s because, this point proceeds, TWIA has a statutory right to recapitalize through assessment and surcharge that other insurers do not following a major disaster.  So, it is true that, at least for a while TWIA will be able to pay its bills. But inability to pay bills is not and should not be the only basis to justify a receivership.  Another reason is equal treatment of claimants.  The recapitalization mechanism was never very solid and is now so dubious that there is a serious question whether TWIA can treat current policyholders fairly.

Fantasy 3: Resolutions of the receivership issue and assessment issue are very important.

Receivership is an issue, but it is not the main issue. It will just determine at the margin how current and future TWIA claimants get paid and may have some effect on solvency this summer.  Even an assessment of another $400 million or $500 million to fully pay for Ike, though it would help current TWIA claimants, will do little to fix the most fundamental problems with that entity, which include its perpetual undercapitalization and the instability and unfairness of its funding mechanisms. Even with an assessment and with or without a receivership, the current law means that TWIA is running a very substantial risk of going insolvent this year from another serious storm. Or, in plain English, if you own property on the coast and it is hit by a tropical cyclone this summer, there is a troubling chance TWIA will not actually be able to pay what it owes you and you may have trouble rebuilding.

The main issue is how to address windstorm insurance on the coast both for the coming hurricane season and thereafter. There are two serious proposals before the legislature. One basically proposes depopulating TWIA and moving toward a market-based system backstopped by an assigned risk plan for those areas in which the market fails to provide insurance close to some affordability threshhold. Under this system, although people across Texas very definitely help, coastal policyholders bare most the burden of the risk posed to their property. Coastal propertyholders get the benefits of owning real estate near the Texas coast, but they also pay for it. The second proposal continues to force people — poor people and rich people alike, Amarillo residents, El Paso residents and Nacogdoches residents — to subsidize risk along the coast even more than has been done before. While this system at least reduces the risk of a hurricane leaving insureds with claims only against an insolvent insurer, it sends bad signals to the development market and, gallingly, frequently transfers money from the poor to the wealthy. I have my own views on how that debate should come out but respect the view of others.  I just wish it was that debate that was preoccupying the Texas legislature and not a judicial remedy for addressing the existing insolvency.

Here’s what Representative Craig Eiland reportedly said yesterday:

“I see no way you could ever say that’s there no assessment authority with TWIA based on the contractual rights the 2008 policyholders have for the premium they paid for the coverage they purchased,” he said. “Why are we dancing around the question? If we go into receivership the judge is going to assess the companies and have an answer. Why are we not trying to have an answer? Before you make the decision that we cannot assess, how about go assess and find out the final answer.”

 

Text of section 44 of HB 4409 (found here)

 SECTION 44.  The following laws are repealed:
             (1)  Subdivisions (5) and (12), Section 2210.003,
Insurance Code;
             (2)  Sections 2210.058 and 2210.059, Insurance Code;
             (3)  Sections 2210.205 and 2210.206, Insurance Code;
             (4)  Sections 2210.356, 2210.360, and 2210.363,
Insurance Code; and
             (6)  Subchapter G, Chapter 2210, Insurance Code.

Craig Eiland: TWIA can still assess for Ike

According to ABC-13, State Representative Craig Eiland of Galveston also thinks I’m wrong about whether TWIA can still assess insurers for damages caused by Hurricane Ike in 2008.  I’ve stated here and here in this blog that the repeal of section 2210.058 of the Texas Insurance Code in 2009 certainly seems to have ended that authority.  But Rep. Eiland states: “The board can reassess the companies now — today, tomorrow, next week — for the money and premiums they paid out in claims since Hurricane Ike.” TV stations don’t usually include footnotes, so I’m genuinely curious about what Rep. Eiland’s legal authority is for his assertion.

I’m also curious to see what would happen if TWIA followed Representative Eiland’s assertion and actually tried to reassess insurers around the state to pay for persistent Ike claims.  My guess is that it would not provide cash in time for the 2013 hurricane season. I suspect that many Texas insurers would file a lawsuit before they wrote a check.

Why do coastal politicians urge low TWIA rates?

The title of this blog entry may seem a particularly dumb question. Coastal legislators, the simple answer proceeds, want the Texas Windstorm Insurance Association to keep rates low because it helps their constituents’ pocketbooks. But is that really true? Or, more precisely, under what circumstances would that be true?

The first thing to recognize is that low premiums have a somewhat different effect when they go to Allstate than when they go to TWIA. One can quite understand policyholders not wanting to pay Allstate very much money because its profits simply go for the benefit of Allstate’s shareholders. TWIA, on the other hand, has no shareholders. To the extent TWIA collects “too much” in premiums, that is extra money available to pay future claims of future coastal policyholders. Over collection by TWIA favors future coastal residents in a way that over collection by Allstate does not.

One can get at a better answer to this question by asking why TWIA insists that policyholders pay much or, indeed, anything in advance premiums at all. Since the risk of tropical cyclones is difficult to quantify, why not just have a post-disaster assessment scheme? It would work as follows: when we know how large the damages are from some hurricane relative to TWIA cash on hand (which might be zero if there were no premiums), TWIA simply “post-assesses” its policyholders to pay in that much money over some period of time. We wouldn’t need no stinkin’ models; we’d just see what happens. Take imaginary Hurricane Barry that creates claims (plus lost adjustment expenses) of $1 billion above any cash TWIA happens to have on hand. Because TWIA has about $70+ billion of property under its control, if TWIA could spread the payback period over 5 years, some back of the envelope math suggests that the consequence of this scheme would be that someone with $200,000 worth of coverage would have to pay roughly $571 per year to take care of the claims caused by Barry.

This proposed post-assessment alternative sounds pretty good. I bet many TWIA policyholders with $200,000 properties would be delighted to pay only $571 per year for tropical cyclone coverage.

Unfortunately, the proposed alternative won’t work as inexpensively as described. This baseline figure of $571 is a significant underestimate. There are two reasons: interest expenses and post-assessment shrinkage.

The interest issue is easy to understand. Few policyholders with demolished properties want to wait 5 years living in a tent or in a home decorated with blue tarp until all the assessments are collected before getting their claims paid. So, to pay for Barry, TWIA has to borrow the $1 billion. But now TWIA policyholders don’t have to just pay back $1 billion, they have to pay it back with interest. Interest expenses alone can raise the annual payback amount substantially.

There’s also a shrinkage problem. Once the price of being a TWIA policyholder jumps due to the assessment, TWIA will no longer be assessing the amount of property it did prior to the storm. Thus, to continue with our example, to compute the necessary assessment, TWIA won’t be dividing the amount of damages by the $70+ billion; the denominator will be smaller. And this means that the assessment, because it will be spread over less property, will have to be larger. But the larger assessment means that yet more people will drop out of TWIA, which means that the assessment will have to be yet larger. One can’t easily say whether and if this spiral will stop, but one can be confident that the size of the assessment will increase significantly due to both the interests costs on the loan and due to the reduced size of the TWIA pool.

Footnote here. There is another way to run an assessment scheme: don’t assess future policies; assess policies in place at the time the disaster struck. Such a method avoids shrinkage as I’ve described it, but it creates another problem: collection. Instead of just cancelling policies that don’t pay assessment, TWIA now has to actually track down over a period of many years former policyholders some of whom just will not have the money to pay what is due. That’s expensive and will not yield a 100% recovery rate. And, as I read the Texas statute, it’s not what’s contemplated in the event of a large storm. Anyway, whether done by assessments on future or in-place policies, post-assessment has problems.

I don’t think it’s unreasonable to believe that for something like Hurricane Barry, interest and shrinkage would raise the post-assessment by about 25% over its baseline cost. But no one knows this number with any certainty. And this means that there is a substantial risk that the scheme won’t work or, that conservative lenders, will worry that it won’t work and will accordingly charge very high interest rates. Indeed, TWIA appears to have discovered that, although the Texas statute will let it borrow $1 billion following a disaster to be repaid with policyholder assessments, the market appears willing only to lend $500,000. So, post-assessment schemes are risky.

There’s an additional problem, however. And, this one is a killer. I just provided an example with a $1 billion Hurricane Barry. If we start increasing the size of the storm to, say $2 billion (over cash on hand) hypothetical Hurricane Tanya (or we add another smaller hurricane in the year such as $1 billion hypothetical Chantal), the shrinkage problem starts to grow. Indeed, with a more serious storm such as Tanya (or Barry + Chantal), there is a significant risk of a death spiral in which there are not enough TWIA policyholders left to repay the assessment.

What this means is that a sensible insurance scheme has to balance at least two factors: you don’t want insureds paying too much because — well — that’s money out of the hands of insureds and doing so could needlessly depress the coastal economy. On the other hand, you don’t want insureds paying too little because that creates the risk of a storm large enough to plunge any assessment scheme into a death spiral.

So, what an intelligent discussion of this issue needs to do is to discuss a balance of these two problems with actuarial and climate science in mind. By focusing only on the over-collection issue, certain coastal legislators are sadly distorting and deterring an intelligent political debate. The consequence of this distortion could be quite serious for coastal residents. They may find that the assessment scheme they counted on to help TWIA pay for losses just does not work. They will then need to come begging to the state or Uncle Sam for a bailout. Indeed, that is precisely what the latest actuarial study engaged by TWIA/TDI predicts will occur a substantial percentage of the time if coastal premiums are not raised substantially.

Now, what I could imagine a coastal politician saying in response to this blog (I do hope they read it — and read it all the way to the exciting end), is that the post-assessment problem is overstated because the Texas statute limits the size of assessments that can be made. Moreover, they might say, TWIA does not depend exclusively on policyholder assessments to pay for tropical cyclones that cause damages in excess of cash on hand. And, to some extent, this rebuttal is true. But, if we break it down, what the politicians are really saying then is that small premiums aren’t a problem because they expect someone else to pick up the pieces if a big storm hits. That is, TWIA policyholders aren’t to be treated like ordinary policyholders who are in serious difficulty if their insurer (predictably) goes insolvent after charging too low premiums; TWIA policyholders stand in a privileged position relative to other Texans.

I have a lot of problems with this rebuttal. First, there is still a problem because, as I have pointed out at some length, the other sources (limited assessments on non-TWIA coastal policies; limited assessment on Texas insurers) will not yield enough cash to pay fully for losses incurred after serious storms in the densely populated parts of the Texas coast. Even the coastal politicians now appear to recognize this fact but poo-poo what they believe is a 1.5% annual risk of this occurring. But even if there were zero risk of a TWIA default, the rebuttal rests on the dubious premise that coastal residents are entitled to some special privilege that the rest of Texas does not enjoy.

And, here, we get to the core of the issue. After you put all the smokescreen rhetoric aside, what certain coastal politicians are really saying is that the coast is indeed special. But why? Yes, many find the coast lovely, but so too do many find the Texas Hill Country or even the stark beauty of the northern panhandle with its silos, vistas and hints of ancient vulcanism. Yet neither Kerrville nor Dumas insureds have the benefit of getting full insurance on their $200,000 property while paying the premiums sufficient to cover only a policy with a $50,000 limit. If the preference for the coast is based on aesthetics, then let us be explicit and subsidize coastal beauty. Yes, the coast contributes to the Texas economy. But so does Houston, so does Dallas, so does El Paso, so does Stephenville and so does Dalhart and Childress and Texarkana. Dollars are dollars. Should Galveston residents assume the risks posed by locating property in Dallas because Dallas contributes greatly to all of us here in Texas?

So, in my opinion, the “coast contributes” justification is completely bogus.

Are coastal residents disproportionately afflicted by some imperfection in the insurance market from which the rest of Texas is exempt? Might that justify the privilege? I see no evidence of any special, irrational animus towards the Texas coast on the part of the insurance industry. Greedy insurers would as much enjoy profiting from coastal consumers as they do profiting from those in Stephenville. Why, if they could do so at a rate they thought profitable, would insurers collectively sit back and let a government entity take over the coastal insurance business? The fact that many (and not all) companies won’t write on the coast is more easily explained by the low prices of its publicly subsidized competitor — TWIA — or by feared regulatory price constraints than by some vast conspiracy. The most likely reason prices are high on the coast is because risks there are particularly uncertain and particularly correlated and because stockpiling the requisite cash to pay for large claims is expensive.

Now, is it the “fault” of a Galveston policyholder that they live in a place subject to uncertain, correlated risk? No. There is no moral failing. Is it a “choice?” That depends. For some, such as the owner of a second home, quite probably. Moreover, even for a first home, people choose to have a million dollar home rather than a $500,000 home. For others, however, less so. The current scheme in Texas, however, treats TWIA insureds as special regardless of the degree to which their ownership of property is a choice. In general, it’s a good idea for insurance prices to reflect risk accurately because that, in the long run, encourages intelligent investment decisions. Societies that subsidize risky activities for long periods of time end up with more risky activities and become, as the pandering of some coastal politician suggests, addicted to them at great expense to the rest of society.

The better rebuttal — and the one I actually hope starts to gain prominence — is that giving TWIA lots of money has enabled it to waste money purchasing incredibly expensive reinsurance in a market whose competitiveness is open to question. Because reinsurance has cost TWIA something like six times the actuarial value of the risk it assumes, policyholders would do better, this argument proceeds, for TWIA to charge less in premiums or to charge the same in premiums, pray for a few good years, and to stockpile the extra funds. This argument, by the way, has some support in the recent report of TWIA’s actuarial consultants. But, if wasting money on reinsurance is the issue, the better solution is to restrict TWIA’s discretion in using its funds for this purpose. TWIA could, after all, buy reinsurance even if premiums were reduced. Now, how exactly to intelligently restrict TWIA’s discretion in reinsurance purchasing is the subject for another day. In the mean time, however, the purported advocates of coastal policyholders had best be very careful lest their concerted advocacy in support of what they wish for, lower premiums, succeeds and a large insurer has insufficient resources to pay claim as a result. Pity the coastal politician seeking another term after they deprived the insurer of residents in their districts the resources that insurer needed to pay claims fully.

Quick blog entry on the TWIA meeting of August 6, 2012

I managed to watch most of the TWIA board meeting this morning. Thanks to TWIA for providing this additional form of access to its proceedings. I’m just going to do a quick bullet point list here of matters I found interesting. I’ll try to return to each of these in the days ahead.

1. TWIA has shifted its reinsurance strategy. Instead of a reinsurance attachment point that lay between Class 2 and Class 3 securities, TWIA has now put reinsurance at the top of the stack. It’s also managed to purchase more reinsurance by doing so, notwithstanding a “hardening” of the reinsurance market. This means more protection for policyholders in the densely populated counties but it also means that Texas insurers writing in Lubbock, Dallas, and other non-coastal areas plus non-TWIA policyholders on the coast will bear more of the burden of a large storm by having to repay bonds.

2. One issue TWIA better think long and hard about now that it has placed reinsurance at the top of the stack is how it is going to collect that reinsurance. Traditionally, reinsurers require the insurer to pay the claims first and then to seek reimbursement. But, before this reinsurance will kick in, TWIA will have exhausted its statutory borrowing capabilities of Class 1, 2 and 3 securities. So, does that mean TWIA will have to wait years collecting premiums hopefully in excess of receipts before it can actually get the reinsurance money? How much would it cost TWIA to negotiate a waiver of the indemnity nature of the arrangement? If it’s not a lot, I’d pay!

3. There was talk about how, with $800 million in cash available (source?), TWIA would have months before it would need to raise money from Class 2 and Class 3 securities. I know I’m the gloomy sort, but I have concerns about whether (a) $800 million is enough cash-on-hand for a major storm and (b) whether a few months will be sufficient to raise the extra funding.

4. Uh oh. I learned today that TWIA doesn’t think it can actually raise the $1 billion in Class 1 securities it is authorized to issue following a significant storm. It may only be able to raise half of that. Why? Well, they didn’t say but I assume it is because the market is leery of the ability of TWIA policyholders to actually pay back that money via future increases to their policies. Some TWIA policyholders will likely drop out (or have had their insurable property eliminated). On the one hand, I will confess to deriving some satisfaction from having been proven right that the $1 billion in Class 1 securities was very iffy money On the other hand, it is kind of horrifying to discover that TWIA’s ability to raise money is even more limited that previously asserted.

5. TWIA is evidently going to consider whether to ask the legislature to reduce the maximum policy limit from about $1.8 million for a residential structure down to a lower number. Some board members noted that there was private insurance coverage available for such risks and that other government coastal insurers were not so generous. Representative Craig Eiland from Galveston objected saying that such exposures constituted a small part of the TWIA portfolio and that no one would build large homes on the coast if they couldn’t get TWIA insurance. I’ve advocated in the past that, so long as TWIA policyholders are being subsidized by the rest of the state, that subsidy should not extend to very expensive properties, particularly if private excess insurance is available.

6. TWIA has formed a 10-12 member legislative committee chaired by Mike O’Malley to make recommendations to TWIA regarding recommendations TWIA should make to the Texas legislature on reform. The committee will apparently focus — as it should — on finance issues. Two items of note: only six of the committee members will be TWIA board members. One of the members will be a private advocacy group, the Coastal Coalition. I’m not sure why this advocacy group, which I believe is now renamed the “Don’t Kill The Texas Coast” group gets a privileged position. There was also a discussion of voting rights on the committee. I’m not sure this was resolved, but it strikes me as bizarre that TWIA would delegate voting authority to people not charged with the responsibilities of board members.

P.S. Just fixed a typo in paragraph. It said “not” but it mean “now.” Big difference. Sorry.