Key Takeaways:
– Weather/climate-related disasters exceeding $1 billion per event have doubled in the last five years
– Homeowners in affected markets are experiencing increases in premiums or cancellation notices
– Major credit investors like Fannie Mae and Freddie Mac are concerned about the long-term prognosis of traditional insurance
– The homeowners insurance market needs an overhaul to prevent a catastrophe in the mortgage market
– Premiums on homeowners insurance policies have soared, especially in areas hardest hit by disasters
– Insurers are caught between state insurance commissions and reinsurance companies, making it difficult to raise rates or offload risk
– State-run insurance programs are suffering from the departure of private insurers
– A combined private-public insurance solution is needed at the national level to distribute natural disaster risk more efficiently
– A new government-sponsored enterprise (GSE) should be created and run by experts in insurance, finance, and weather/climate
– The GSE should provide hazard insurance to homeowners against natural disasters and offer fair pricing
– Private insurers can strip out costly provisions and offer basic policies for non-hazard related risks
– The hazard insurance GSE can issue climate risk transfer (ClRT) securities to distribute risk to private investors
– The federal government’s track record with national flood insurance does not affect the viability of a hazard insurance GSE
– A hazard insurance GSE would bypass the rate-setting problem across state insurance commissions and create an efficient market
– A functional homeowners insurance market is crucial for a vibrant housing finance system
HousingWire:
A brewing crisis is emerging around homeowners insurance and thus far the finance and insurance community has not offered any viable solutions.
The annual number of weather/climate-related disasters exceeding $1 billion per event has more than doubled over the last five years from historical averages. Homeowners in affected markets have experienced increases in premiums that threaten their financial soundness or are finding cancellation notices in their mailboxes.
Major credit investors such as Fannie Mae and Freddie Mac, which require such policies, are acutely concerned about the long-term prognosis of traditional insurance in light of extreme weather trends.
An overhaul of the homeowners insurance market is in order to prevent an impending catastrophe in the mortgage market.
Premiums on homeowners insurance policies soared more than 20% from last year, reflecting increased rebuilding costs from more natural disasters. In areas hardest hit by recurring disasters such as Florida, premiums have risen 35% with many homeowners experiencing much higher rates. And that’s where policies are available.
Several major insurers grabbed headlines this year by announcing their withdrawal from some markets, such as State Farm deciding not to offer new policies on homes in California due to major disasters like destructive wildfires that have plagued the state in recent years.
Insurers are squeezed between state insurance commissions, reluctant to allow rate increases reflecting the recent trends in claims, and reinsurance companies raising premiums on insurers looking to offload significant risk exposure from natural disasters.
State-run insurance programs including Florida’s Citizens Property Insurance Corp. have been reeling from the exodus of private insurers in their state. The dependence of a functioning insurance market on the decisions of 50 different state insurance commissions, poorly operating state-run programs and the volatility of reinsurance premiums imperils this market and has spillover effects onto the mortgage market.
To ensure the vitality of both homeowners insurance and mortgage markets, a combined private-public insurance solution at a national level is required to distribute natural disaster risk more efficiently, thereby lowering the costs and access to insurance and helping reduce pressures from a housing affordability crisis already in full bloom.
This could be attained by creating a new government-sponsored enterprise (GSE) under the regulatory purview of the Federal Housing Finance Agency (FHFA) that already regulates Fannie Mae and Freddie Mac. The existing National Flood Insurance Program (NFIP) would be restructured into this new hazard insurance GSE.
Importantly, this new GSE would be run by property and casualty (P&C) insurance, finance and weather/climate experts. The GSE structure would provide a nationwide platform providing hazard insurance to every homeowner against major natural disasters beyond flood risk. Providing fairly priced hazard insurance to homeowners given the trajectory of natural hazard events is in the national interest and funding this business in part with low-cost debt is critical to keeping costs down and access to insurance available to all.
By providing coverage only for natural hazards via this federal hazard insurance GSE, private insurers would be able strip out costly provisions of existing homeowners policies, turning them into basic policies covering other non-hazard related risks such as damage from a water line break.
This would reduce the overall costs of these standard policies. The federal hazard policy could be quasi risk-based, into several risk-based tiers to spread costs across a broad base of homeowners and make the policies affordable but also provide pricing disincentives to homeowners attracted to risky areas.
On the back end, the hazard insurance GSE would issue climate risk transfer (ClRT) securities much like Fannie and Freddie’s credit risk transfer (CRT) securities for mortgage credit risk.
Tranches of hazard risk would be sold off to private investors, most of which in this case would be insurers and reinsurers that could take positions in hazard risk based on their risk preferences. This would more efficiently distribute hazard risk and with sufficient interest, build liquidity in such a market which over time would help lower premiums while also reducing systemic risk to the taxpayer.
Some might say that the federal government’s track record with national flood insurance has not been good, so why would a federally chartered hazard insurance GSE present a viable solution? Actually, the housing GSEs have been incredibly effective at lowering the cost of homeownership since their inception and even following the Global Financial Crisis of 2008, have generated a profit for the US Treasury.
Establishing a hazard insurance GSE would bypass the insurance rate-setting problem that exists across 50 state insurance commissions that can limit insurance availability, and combined with a new ClRT security, would create an efficient market for broad distribution of hazard risk to the private market. The close linkage between homeowners insurance and mortgages would also be preserved by having the FHFA oversee GSEs engaged in these activities.
A vibrant housing finance system is dependent on a functional homeowners insurance market. As the pace of natural disasters rises, the provision of homeowners insurance needs to adapt to a rapidly changing environment. A federally sponsored corporation is best suited to address inherent frailties of today’s homeowners insurance markets.
Clifford Rossi is Professor-of-the Practice and Executive-in-Residence at the Robert H. Smith School of Business at the University of Maryland. He has 23 years of industry experience having held several C-level executive risk management roles at some of the largest financial institutions.
This column does not necessarily reflect the opinion of HousingWire’s editorial department and its owners.
To contact the author of this story:
Clifford Rossi at [email protected]
To contact the editor responsible for this story:
Sarah Wheeler at [email protected]
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Property Chomp’s Take:
Hey there! Let’s talk about the brewing crisis in homeowners insurance and how it’s impacting homeowners and the mortgage market. It’s a concerning situation, and so far, the finance and insurance community hasn’t come up with any viable solutions.
Over the past five years, the number of weather and climate-related disasters exceeding $1 billion per event has more than doubled from historical averages. This increase has resulted in higher premiums for homeowners in affected markets, putting their financial stability at risk. Many homeowners are even receiving cancellation notices in their mailboxes.
This trend is causing major concern for credit investors like Fannie Mae and Freddie Mac, which require homeowners insurance policies. They’re worried about the long-term outlook for traditional insurance due to the rise in extreme weather events.
Clearly, an overhaul of the homeowners insurance market is necessary to prevent a catastrophe in the mortgage market. Premiums have increased by more than 20% from last year, reflecting the rising costs of rebuilding after natural disasters. In areas severely affected by recurring disasters, such as Florida, premiums have surged by 35%, leaving many homeowners with significantly higher rates.
Moreover, several major insurers have made headlines this year by pulling out of certain markets. For example, State Farm decided not to offer new policies on homes in California due to the destructive wildfires that have plagued the state. This exodus of insurers is squeezing the industry between state insurance commissions, which are reluctant to approve rate increases, and reinsurance companies raising premiums on insurers looking to offload risk exposure from natural disasters.
State-run insurance programs, like Florida’s Citizens Property Insurance Corp., have been hit hard by the departure of private insurers from their state. The dependence on 50 different state insurance commissions, poorly functioning state-run programs, and volatile reinsurance premiums poses a threat to the homeowners insurance market and has spillover effects on the mortgage market.
To ensure the vitality of both homeowners insurance and the mortgage market, a combined private-public insurance solution at the national level is needed. One potential solution is to create a new government-sponsored enterprise (GSE) under the regulatory oversight of the Federal Housing Finance Agency (FHFA), which already regulates Fannie Mae and Freddie Mac. This GSE would restructure the existing National Flood Insurance Program (NFIP) into a new hazard insurance GSE.
The key is to have property and casualty (P&C) insurance, finance, and weather/climate experts running this new GSE. It would provide hazard insurance to homeowners against major natural disasters beyond flood risk. By offering fairly priced hazard insurance, the aim is to lower costs and improve access to insurance, thus alleviating the pressures of the housing affordability crisis.
This federal hazard insurance GSE would allow private insurers to focus on non-hazard related risks, such as damage from a water line break, by stripping out costly provisions from existing homeowners policies. The federal hazard policy could be structured into risk-based tiers, spreading costs across a broader base of homeowners.
On the back end, the hazard insurance GSE would issue climate risk transfer (ClRT) securities, similar to Fannie and Freddie’s credit risk transfer (CRT) securities for mortgage credit risk. Private investors, mainly insurers and reinsurers, would be able to take positions in hazard risk based on their risk preferences, thereby efficiently distributing hazard risk and building liquidity in the market. This could help lower premiums over time while reducing systemic risk to the taxpayer.
Now, some might argue that the federal government’s track record with national flood insurance isn’t great. However, the housing GSEs have been highly effective in lowering the cost of homeownership since their inception. Even after the 2008 financial crisis, they have generated a profit for the US Treasury.
Establishing a hazard insurance GSE would bypass the challenges of insurance rate-setting across 50 state insurance commissions and create an efficient market for broad distribution of hazard risk to the private market. By having the FHFA oversee GSEs engaged in homeowners insurance and mortgages, the close linkage between the two markets would be preserved.
The bottom line is that a functional homeowners insurance market is crucial for a vibrant housing finance system. As natural disasters become more frequent, the provision of homeowners insurance must adapt. A federally sponsored corporation, like a hazard insurance GSE, seems to be the best solution to address the shortcomings of today’s homeowners insurance markets.
Clifford Rossi is a Professor-of-the Practice and Executive-in-Residence at the Robert H. Smith School of Business at the University of Maryland. With 23 years of industry experience, he has held several C-level executive risk management roles at some of the largest financial institutions.
(Note: The views expressed in this article are those of the author and do not necessarily reflect the opinion of HousingWire’s editorial department and its owners.)
To contact the author of this story: Clifford Rossi at [email protected]
To contact the editor responsible for this story: Sarah Wheeler at [email protected]
