California Earthquake Authority Bond Issue a ‘First Step’

By | August 3, 2011

Officials with the California Earthquake Authority said yesterday that their recent $150-million bond issue is just a first step in diversifying their risk so that they can expand earthquake coverage in the state.

“It is just a step and we need to keep at it,” said Glenn Pomeroy, the chief executive officer, of the CEA.

Pomeroy said his major goal with the CEA is to expand the number of homes it covers. Currently, the CEA accounts for 70 percent of residential earthquake policies sold in California, but only 12 percent of households have earthquake insurance.

He would like the CEA to “develop more affordable insurance while remaining sustainable in the event of a big earthquake,” he said.

The CEA recently announced that it will institute a 12 percent rate reduction, starting Jan. 1, 2012.

The bond issue, the sale of which was completed this week, was not large in the scheme of the CEA plan, but it was an important first effort, Pomeroy said.

The issue was the first time the CEA has accessed the capital markets. Prior to this, the CEA went to the traditional, reinsurance markets when it needed to transfer some of its risk. But the CEA knew there was demand. The Japanese issue earthquake bonds, and, in this country, insurers sell bonds to back hurricane insurance.

Actually, the demand in the bond sale outstripped the supply, according to a CEA statement.

“We knew there was appetite out there for earthquake risk in the capital market,” Pomeroy said.

The bonds came from an arrangement CEA entered into with Embarcadero Reinsurance, Ltd, a special purpose, reinsurance vehicle established in Bermuda for this bond sale, and for others with the CEA. The sale of the bonds — three-year catastrophe bonds, paying a floating rate of 6.6 points above one-year U.S. Treasury money-market funds — was led by Deutsche Bank Securities.

The CEA intends to have more, similar bond issues in the future, perhaps every four to six months, said Tim Richinson, chief financial officer of the CEA.

What could really make a difference for the earthquake insurer, however, is a bill currently being considered in the U.S. Congress, the Earthquake Insurance Affordability Act, sponsored by Sen. Diane Feinstein (D-Calif.), Pomeroy said.

The bill would give CEA access to post-event federal loan guarantees it could use following an earthquake. That would allow CEA to issue bonds in the aftermath of an earthquake, which, in turn, would mean CEA would not have to use the reinsurance market so much, saving it money. CEA could pass that savings on to its customers, Pomeroy said.

Presently, CEA has about $9 billion in claims-paying capability, of which about $3 billion comes from reinsurance. But, that reinsurance is expensive. In the 14 years it has been in existence, the CEA has paid about $2.8 billion to reinsurers.

The proposed federal legislation would allow CEA to keep about half of the current $3 billion out of the reinsurance market, Pomeroy said.

That would make a much bigger difference to CEA’s plans to expand than the $150-million bond issues, he added.

“A diverse set of risk-transfer tools, which includes not only reinsurance and catastrophe bonds but also post-earthquake federal loan guarantees, will help us make earthquake insurance more affordable and more widely used,” CEA said in a statement.

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