Florida Property Issues: The Florida Hurricane Catastrophe Fund CAS 2002 Annual Meeting

1. Florida Property Issues:The Florida Hurricane Catastrophe FundCAS 2002 Annual Meeting Larry D. Johnson, FCAS AVP, Allstate Insurance Actuary for FHCF Advisory Council

2. Topics • Florida Commission on Hurricane Loss Projection Methodology 2001-2002 Activity • State Building Codes • Florida Hurricane Catastrophe Fund 1995-2002 Activity • FHCF Outlook and Future Changes

3. FL Commission on Hurricane Loss Projection Modeling • Established 1995; 11 statutorily defined voting members representing government, consumers and insurance industry, including experts in insurance, finance, actuarial, meteorological, engineering, statistical and computer sciences; Model audits are done by Professional Team consisting of experts in same fields • Standards: General (7), Meteorological (9), Engineering (7), Actuarial (17), Computer (8), Statistical (5), 53 total • First model accepted 1996; in 2002 AIR, ARA, RMS, & EQECAT accepted • Major Standard Changes this year: Statistical, for uncertainty and sensitivity analysis of models; Actuarial, for modeling building mitigation features

4. Statewide Building Codes • Effective 6-1-2002, a statewide building code replaced 300+ local codes • Defines 3 zones based on 100-year return period winds: High Velocity Hurricane Zone (>140mph), Wind-Born Debris Zone (>120mph), all other areas • Specifies building requirements appropriate to zone for roof strength & covering, roof to wall strength, foundation attachment, opening protection

5. §627.0629Mandated Discounts and Credits • Any rate filings on or after 6-1-2002 must include discounts or credits for major features defined in new building code • In addition to major features, must provide rating for roof shape, construction, reinforced doors & garages, gable end bracing • By 2-28-2003, all insurers must file for discounts and credits • Departments of Insurance and Community Affairs sponsored public domain study performed by Applied Research Associates • DOI recognizes the “…study results as a basis for deriving actuarially reasonable differentials…”; may rely on other studies “…as long as filings include comparable documentation…” • Must specify how construction features will be verified • Cannot offset hypothetical premium loss, but can temper discounts by 50% until mitigation premium distribution known • FHCF applies discount to FHCF premiums based on ranges of mitigation discounts applied by insurers to primary insurance

6. Southeast Florida Population Growth During the 1990’s SE Florida population grew by 1 million (25%)

7. The Challenge of Growing Exposure • In 1992 Hurricane Andrew inflicted $16.7 billion insured loss, $12 billion residential • Since Andrew, population has grown by 25% and per-unit insured values have grown 4% per year, both with no signs of abating • Another Andrew at Homestead would now inflict $27 billion insured loss, $21 billion residential • Another Andrew north of Homestead would cost $40 to $80 billion • Are we keeping up or are we falling behind in this “race” with exposure?

8. Florida Hurricane Catastrophe Fund • Created late 1993, began operation 1994, coverage first available for 1995 hurricane season • Controlled by State Board of Administration; Trustees are Governor, Chief Financial Officer, Attorney General (01-01-03) • Trustees advised by 9-member Advisory Council • Day-to-day operations managed by Dr. Jack Nicholson, Senior FHCF Officer and SBA staff • All personal and commercial residential property insurers, including Citizens, must purchase coverage • Coverage options 90%, 75%, 40% above retention; 2002 average 88% • Projected 2002 premiums $468 million; effective “rate-on-line” 4.255% of coverage

9. Historical FHCF Capacity

10. FHCF Initial Season Capacity – 2002 45 year return time Emergency Assessment Base of $768 million $11 Billion Capacity $16.326 B Overall Industry Loss $6.079 B Bonding Capacity (Includes Loss Adjustment Expense) (only $394 M needed) $1.489 B Industry Co-Payments 2.05% of all P&C premium, X-WC & A&H $4.921 B Projected 2002 Year-end Cash Balance $3.837 B Industry Aggregate Retention Not Drawn to scale.

11. Emergency Assessment Base of $768 M ($681 M needed) 45 year return time $10.791 Billion Capacity 3.55% of all P&C premium, X-WC & A&H $16.253 B Overall Industry Loss $10.330 B Bonding Capacity (Includes Loss Adjustment Expense) $1.47 B Industry Co-Payments $461 million Projected Year-end Cash Balance $3.990B Aggregate Industry Retention 2003 Subsequent Season Capacity (If $11 B Capacity used in 2002 Hurricane Season) Not Drawn to scale.

12. Florida Hurricane Catastrophe FundHistory of Legislative Changes • 1995 – tax exempt status for the fund; up to 4% assessment on all P&C premiums, excluding WC and A&H • 1996 – public benefits corporation created in order to secure tax-exempt status for debt • 1999 – creation of subsequent season capacity; additional 2% assessment after 4% initial season assessment • 2002 – Coverage of additional living expense (ALE), collateral protection insurance, and “rapid cash buildup” factor

13. 13 Florida Hurricane Catastrophe FundHistory of Administrative Actions • 1994/1995 – Private Letter Ruling granting tax-exempt status to FHCF. • 1996 - Bond Ratings A1/A+, Moodys, S&P, & Fitch. • 1997 – Validation of up to $10 billion of bonds with the Florida Supreme Court. • 1998 - Private Letter Ruling on Tax-Exempt Bonds. • 1999 – Implemented use of multiple models for rating; use all Commission-approved models; in 2002 used 4 for statewide rates, 3 for territories • 2001 – 1st Annual Participating Insurer’s Workshop. • 2002 – Clarified major commercial residential reporting issues.

14. Projected Growth FHCF Capacity & Assessments*(Current FHCF Statute with $11 billion limit, 4% initial year, 6% aggregate) Millions * Based on various actuarial assumptions. Subject to interest rate volatility. Assumes no losses. These numbers are for illustration purposes and should not be relied on since the underlying assumptions are subject to change.

15. 15 2003 Legislative Ideas • Including Surplus Lines in the FHCF Assessment Base • Clarifying “Prior Fiscal Year” Relating to Investment Income for Mitigation Funding • Expanding the Capacity of the FHCF • SSAP #35 Accounting Issue

16. “Balanced Growth” FHCF Capacity & Assessments*(Proposed FHCF Legislation 5% initial year, 8% aggregate, $11 billion limit adjusted for exposure growth starting 2003) Millions * Based on various actuarial assumptions. Subject to interest rate volatility. Assumes no losses. These numbers are for illustration purposes and should not be relied on since the underlying assumptions are subject to change.

17. SSAP #35 Accounting Issues • “This statement applies SSAP #5-Liabilities, Contingencies and Impairment of Assets to Guarantee Fund and other assessments; SSAP #5 requires a liability accrual when both of the following conditions are met.” • “Information available…indicates…a liability has been incurred” • “The amount of the [future] loss can be reasonably estimated” • FHCF assessments to fund bonds has been interpreted to meet the tests so SSAP #35 applies • Would require all P&C insurers to accrue a liability equal to 2%-4% FHCF assessment times 30 years, times Florida P&C premium • Some states will allow an offsetting asset for future recoupments of FHCF assessments • Investigating legislative change to make 2nd and subsequent year assessment a policyholder obligation ala Citizens

18. Is Capacity Keeping up With Exposure? • Florida Hurricane Catastrophe Fund a success; has grown from $2B to $5B assets, $11B+$10.8B coverage, at low cost • Private reinsurance has increased, but… • Additional Florida capacity appears limited • Current RE pricing may not be economic at today’s primary rates • Stronger Building Codes and rate incentives • Massive restructure of market brings in more capital • Citizens tax-exempt status adds to overall capacity by reducing future assessments • But… companies still non-renewing, withdrawing, residual market exposure is growing again • Exposure growth in Southeast Florida 6% per year • Modeling estimates assume no mold exposure • So is capacity keeping up?