South Carolina Property Insurance Markets Issues, Concerns, Solutions

1. South Carolina Property Insurance MarketsIssues, Concerns, Solutions Insurance Information Institute South Carolina Media & Legislative Briefing April 2, 2007 DOWNLOAD AT http://www.iii.org/media/met/scbriefing/ Robert P. Hartwig, Ph.D., CPCU, President & Chief Economist Insurance Information Institute 110 William Street New York, NY 10038 Tel: (212) 346-5520 Fax: (212) 732-1916 bobh@iii.org  www.iii.org

2. Insurers Share the Concern of SC Home & Business Owners • PROPERTY OWNERS ECONOMIC CONCERNS • The price of residential and commercial property insurance has risen rapidly in coastal SC since 2004 • Insurance options for some homeowners have dwindled as some have scaled backed exposure to coastal zones • At the same time property taxes are rising in many communities • The run-up in real estate prices in some areas has dramatically increased the cost of owning a home • Many homeowners adjustable rate mortgages are seeing their interest rate locks expire and are now paying higher interest rates on their mortgages Bottom Line The cost of owning property in South Carolina is rising and home & business owners feel economically squeezed

3. Any Solution Must Emerge from a Common Set of Facts • FACTS ABOUT SOUTH CAROLINA PROPERTY MARKETS • South Carolina has more than $150 billion in insured coastal exposure, more than three times that of Mississippi • Coastal property exposure values are expected to increase rapidly over the next decade • South Carolina’s coastal population is growing rapidly • South Carolina (and all other Gulf/Atlantic states) will experience above-average hurricane activity for the next 15-20 years • South Carolina is vulnerable to major hurricanes, as Hurricane Hugo proved, the cost of which is nearly $7 billion in today’s dollars • Improvements in building codes and mitigation technologies have been proven to substantially reduce wind damage from hurricanes • The current method for financing hurricane-related losses results is an economic burden for some property owners, but at the same times leaves private and state-run insurers with large operating deficits • Ultimately, risk will need to be the primary determinant of the price of insurance

4. Elements of a Shared Solution Arising from a Common Set of Facts • TOWARD A LONG-TERM SOLUTION FOR S. CAROLINA’S INSURANCE • Insurance in South Carolina’s coast areas needs to be more available and affordable • Stronger homes are safer homes and stronger homes (and businesses) cost less to insurance, offer their owners a higher quality of life and are a key part of any solution • Strengthening of building codes and mitigation must be encouraged • Land use policies have a clear role to play in limiting future storm damage • Stronger homes, increased use of mitigation technologies and smarter land use policies will lower insurance losses and costs for home/businesses owners • State tax policy can be used to provide mitigation incentives • Spread of risk on a global scale is important • Reinsurance, securitization (CAT bonds) can help achieve this objective • Insurance capital should be encouraged to flow into SC’s insurance markets • The price of insurance must eventually reflect the risk of that property • This will dramatically reduce the need for assessments, diversion of tax revenues or the need for the state to borrow heavily after a major hurricane

5. CATASTROPHIC LOSSESCatastrophic Losses in the US: Upward Trend is Certain

6. Most of US Population & Property Has Major CAT Exposure

7. U.S. Insured Catastrophe Losses* $ Billions $100 Billion CAT year is coming soon 2006 was a welcome respite. 2005 was by far the worst year ever for insured catastrophe losses in the US, but the worst has yet to come. Hugo *Excludes $4B-$6b offshore energy losses from Hurricanes Katrina & Rita. Note: 2001 figure includes $20.3B for 9/11 losses reported through 12/31/01. Includes only business and personal property claims, business interruption and auto claims. Non-prop/BI losses = $12.2B. Source: Property Claims Service/ISO; Insurance Information Institute

8. South Carolina Insured Catastrophe Losses, 1954 - 2005* $ Millions, Adjusted to 2005 Dollars Since 1954, SC has sustained $5.73 billion insured CAT losses after adjusting for inflation ($3.81B before adjusting) Avg. annual losses since 1989 are larger *Not displayed for scale purposes: Hurricane Hugo losses of $3.72B (adjusted). Source: Property Claims Service/ISO; Insurance Information Institute.

9. South Carolina Insured Catastrophe Losses, 1954 - 2005* $ Millions, Adjusted to 2005 Dollars Hugo Since 1954, SC has sustained $5.73 billion insured CAT losses after adjusting for inflation ($3.81B before adjusting) Average annual losses have been higher since 1989 Source: Property Claims Service/ISO; Insurance Information Institute

10. Top 10 Most Costly Hurricanes in US History, (Insured Losses, $2005) Seven of the 10 most expensive hurricanes in US history occurred in the 14month period from August 2004 to October 2005. Hugo still ranks as the 6th most expensive hurricane in US history Sources: ISO/PCS; Insurance Information Institute.

11. Number of Major (Category 3, 4, 5) Hurricanes Striking the US by Decade 1930s – mid-1960s: Period of Intense Tropical Cyclone Activity Mid-1990s – 2030s? New Period of Intense Tropical Cyclone Activity 10 Tropical cyclone activity in the mid-1990s entered the active phase of the “multi-decadal signal” that could last into the 2030s Already as many major storms in 2000-2005 as in all of the 1990s *Figure for 2000s is extrapolated based on data for 2000-2005 (6 major storms: Charley, Ivan, Jeanne (2004) & Katrina, Rita, Wilma (2005)). Source: Tillinghast from National Hurricane Center: http://www.nhc.noaa.gov/pastint.shtm.

12. Inflation-Adjusted U.S. Insured Catastrophe Losses By Cause of Loss, 1986-2005¹ Insured disaster losses totaled $289.1 billion from 1984-2005 (in 2005 dollars). Tropical systems accounted for nearly half of all CAT losses from 1986-2005, up from 27.1% from 1984-2003. 1 Catastrophes are all events causing direct insured losses to property of $25 million or more in 2005 dollars. Catastrophe threshold changed from $5 million to $25 million beginning in 1997. Adjusted for inflation by the III. 2 Excludes snow. 3 Includes hurricanes and tropical storms. 4 Includes other geologic events such as volcanic eruptions and other earth movement. 5 Does not include flood damage covered by the federally administered National Flood Insurance Program. 6 Includes wildland fires. Source: Insurance Services Office (ISO)..

13. SOUTH CAROLINA HURRICANE RISKPotential for a Loss Several Times Hugo Looms Large

14. Total Value of Insured Coastal Exposure (2004, $ Billions) South Carolina had nearly $150 billion in insured coastal exposure in 2004 (56% commercial, 44% residential) Source: AIR Worldwide

15. Insured Coastal Exposure as a % of Statewide Insured Exposure (2004, $ Billions) Who’s to Blame* • State & local zoning, land use and building code officials • State & local legislators • State-run property insurers, pools & plans • Washington, DC • Property owners *III list Source: AIR Worldwide

16. Value of Insured Commercial Coastal Exposure (2004, $ Billions) South Carolina had nearly $84 billion in insured coastal commercial exposure in 2004 (56% of all exposure) & exceeding NC by 85% Source: AIR

17. Value of Insured Residential Coastal Exposure (2004, $ Billions) South Carolina had more than $65 billion in insured coastal residential exposure in 2004 (56% of all exposure) Source: AIR

18. County Map of South Carolina Source: NOAA Coastal Services Center, http://hurricane.csc.noaa.gov/hurricanes/pop.jsp; Insurance Info. Institute.

19. Increase in Population of Coastal/Near Coastal Counties in South Carolina(% Change, 1990 - 2005) Several SC coastal counties have experienced very strong population growth since 1990. Home values have also skyrocketed—up 120% in Charleston, Berkeley & Dorchester counties between 1996-2005. Sources: Charleston Metro Chamber of Commerce, SC Statistical Abstract, US Census Bureau.

20. Historical Hurricane Strikes in Charleston County, SC, 1900-2002 Population in Charleston County has nearly doubled since the 1950s Source: NOAA Coastal Services Center, http://hurricane.csc.noaa.gov/hurricanes/pop.jsp; Insurance Info. Institute.

21. Historical Hurricane Strikes in Colleton County, SC, 1900-2002 Population in Colleton County appears to be increasing in recent decades Source: NOAA Coastal Services Center, http://hurricane.csc.noaa.gov/hurricanes/pop.jsp; Insurance Info. Institute.

22. Historical Hurricane Strikes in Georgetown County, SC, 1900-2002 Population in Georgetown County has nearly doubled since the 1950s Source: NOAA Coastal Services Center, http://hurricane.csc.noaa.gov/hurricanes/pop.jsp; Insurance Info. Institute.

23. Historical Hurricane Strikes in Horry County, SC, 1900-2002 Population in Horry County has doubled since the 1980s and tripled since the 1950s Source: NOAA Coastal Services Center, http://hurricane.csc.noaa.gov/hurricanes/pop.jsp; Insurance Info. Institute.

24. The 2007 Hurricane Season:Above Average Activity Expected

25. Outlook for 2007 Hurricane Season: 85% Worse Than Average *Average over the period 1950-2000. Source: Philip Klotzbach and Dr. William Gray, Colorado State University, April 3, 2007.

26. Probability of Major Hurricane Landfall (CAT 3, 4, 5) in 2007 *Average over the period 1950-2000. Source: Philip Klotzbach and Dr. William Gray, Colorado State University, April 3, 2007.

27. Landfall Probabilities by Region & Intensity, 2007* Landfall probabilities and intensities up everywhere (59%) (79%) (68%) (52%) (84%) (97%) (42%) (30%) (60%) (83%) (50%) (44%) (31%) (61%) (81%) *Figures in parentheses represent averages over the past 100 years. Source: Dr. William Gray, Colorado State University, December 8, 2006.

28. What Role Should the Federal Government Play in Insuring Against Natural Disaster Risks?

29. South Carolina’s Coastal Plan • Spreading recognition that FL actions were fiscally reckless and did nothing to reduce state’s vulnerability • SOUTH CAROLINA: Gov. Mark Sanford announced a coastal insurance relief plan March 22, referring to FL’s actions as a “knee-jerk” reaction • SC legislation uses tax incentives to reduce risk to property and lower the cost of insurance • Tax deductions for catastrophe savings accounts • Tax credits for disaster mitigation • Tax credits for lower income property owners paying more than 5% of their income in insurance premiums • Tax-free savings accounts for homeowners who carry very large deductibles or create accounts to “self insure” • Tax credits for insurers writing full coverage for coastal dwellers • Tax credits for homeowners who buy supplies to retrofit homes making them more hurricane resistant • Require insurers to offer discounts to people who mitigate Sources: Insurance Information Institute from 3/22/07 press release, Office of Governor Mark Sanford.

30. Major Residual Market Plan Estimated Deficits 2004/2005 (Millions of Dollars) Hurricane Katrina pushed all of the residual market property plans in affected states into deficits for 2005, following an already record hurricane loss year in 2004 * MWUA est. deficit for 2005 comprises $545m in assessments plus $50m in Federal Aid. Source: Insurance Information Institute

31. NAIC’s Comprehensive National Catastrophe Plan • Proposes Layered Approach to Risk • Layer 1: Maximize resources of private insurance & reinsurance industry • Includes “All Perils” Residential Policy • Encourage Mitigation • Create Meaningful, Forward-Looking Reserves • Layer 2: Establishes system of state catastrophe funds (like FHCF) • Layer 3: Federal Catastrophe Reinsurance Mechanism Source: Insurance Information Institute

32. Comprehensive National Catastrophe Plan Schematic 1:500 Event National Catastrophe Contract Program 1:50 Event State Regional Catastrophe Fund Private Reinsurance State Attachment Personal Disaster Account Private Insurance Source: NAIC, Natural Catastrophe Risk: Creating a Comprehensive National Plan, Dec. 1, 2005; Insurance Information. Inst.

33. Legislation has been introduced and ideas espoused by ProtectingAmerica.org will likely get a more thorough airing in 2007/8

34. INSURER PROFITABILITY: SOUTH CAROLINASelling Home Insurance in Coastal Areas is Challenging

35. Underwriting Gain (Loss) in SC Homeowners Insurance, 1985-2005 $ Millions South Carolina’s homeowners insurance market is volatile and prone to mega-scale losses. The average rate of return for home insurers is -15.4% from 1985-2005. Source: A.M. Best; Insurance Information Institute.

36. Cumulative Underwriting Gain (Loss) in SC Homeowners Insurance,1985-2005 On a cumulative basis, insurers remained in the red in the SC homeowners insurance market 16 years after Hurricane Hugo struck in 1989. It is likely that insurers finally came close to break even in 2006. $ Millions Source: A.M. Best; Insurance Information Institute.

37. The Facts About Homeowner Insurer Profits and Losses in SC • During the period from 1985 through 2005, home insurers in SC paid $324 million more in claims than they received in premiums • This $324 million underwriting loss remains even after 5 consecutive profitable years (2001-2005) • It is likely that home insurers in 2006 came close to the breakeven point for the 22 year period 1985-2006 after including 2006 profits. • If there are no storms in 2007, homeowners insurers will be in the black on a cumulative basis for the first time in more than 20 years • SC Remains a Difficult Proposition for Most Home Insurers in Terms of Return • The average annual rate of return on SC homeowners insurance was -15.4% from 1985-2005

38. WHERE YOUR PREMIUM DOLLAR GOESBad CAT Year vs.Low CAT Year

39. Premiums Invested Assets (premiums invested until needed to pay claims Selling Expenses Taxes, Licenses & Fees General Operating Expenses Claims Payments/Losses Reserve Additions/ Releases Company Profit/Loss Net Worth (Policyholder Surplus) Source: American Insurance Association, Insurance Information Institute.

40. Where the SC Premium Dollar Comes From & Where it Goes: 1989 (Hugo) Revenue Sources Total Revenue = $1051 Payments Total Payout = $5548 In a bad year, insurers may pay out 5+ times what they earn in premiums and investments *Includes temporary living expenses. Source: Insurance Information Institute from A.M. Best data.

41. Where the SC Premium Dollar Comes From & Where it Goes: 2004 Revenue Sources Total Revenue = $1039 Payments Total Payout = $850 In a good year, an insurer might earn $200-$300 for each $1000 received in premium, including investment gains *Includes temporary living expenses. Source: Insurance Information Institute from NAIC Report on Profitability by Line by State, 2004.

42. Share of Losses Paid by Private Reinsurers, by Disaster* Reinsurance is playing an increasingly important role in the financing of mega-CATs; Reins. Costs are skyrocketing *Excludes losses paid by the Florida Hurricane Catastrophe Fund, a FL-only windstorm reinsurer, which was established in 1994 after Hurricane Andrew. FHCF payments to insurers are estimated at $3.85 billion for 2004 and $4.5 billion for 2005. Sources: Wharton Risk Center, Disaster Insurance Project; Insurance Information Institute.

43. P/C INSURER PROFITABILITY National Perspective

44. ROE: US P/C vs. All Industries 1987–2008E P/C profitability is cyclical, volatile and vulnerable Sept. 11 Hugo Katrina, Rita, Wilma Lowest CAT losses in 15 years Andrew Northridge 4 Hurricanes *2006-8 P/C insurer ROEs are I.I.I. estimates. Source: Insurance Information Institute; Fortune

45. Profitability Peaks & Troughs in the P/C Insurance Industry, 1975 – 2008F 1977:19.0% 1987:17.3% 2006E:14.0% 10 Years 1997:11.6% 9 Years 10 Years 1975: 2.4% 1984: 1.8% 1992: 4.5% 2001: -1.2% *2006-8 P/C insurer ROEs are I.I.I. estimates. Source: Insurance Information Institute; ISO, A.M. Best.

46. Industry Profitability Benefits Insurance Consumers • Profits compensate shareholders for the assets they put at risk and encourages new capital to enter • Profitable companies can access capital markets under favorable terms after mega-CATs or if market conditions are poor (e.g., post-9/11); Others will fail, are dissolved or acquired • Preferred treatment by reinsurers • Profits lead directly to increased capacity • Profits build contingent capacity for mega-CATs • Profitable companies have higher financial strength and credit ratings

47. Key Messages on Profitability • All of the profits earned in 2004 and 2005 and most of the profits in 2006 were earned in states and from types of insurance unaffected by the hurricanes • 2006’s respite in hurricane activity provides insurers with the ability to rebuilding their claims paying resources • By law, the rates charged for insurance are based exclusively on past and expected losses in that state. Profits in other states or from other types of insurance cannot be used to subsidize losses in the SC homeowners insurance market. Likewise, losses in other states cannot be subsidized by South Carolinians

48. Insurance Information Institute On-Line WWW.III.ORG DOWNLOAD AT http://www.iii.org/media/met/scbriefing/