Disaster insuranceEarthquake insurer seeks to diversify risk

In an effort to diversify its risk and expand earthquake coverage, the California Earthquake Authority (CEA), an insurance provider, has begun issuing bonds.

Most recently it issued $150 million in bonds, in its first sale.

“It is just a step and we need to keep at it,” said Glenn Pomeroy, the CEO of CEA. The bond issue was relatively small, but Pomeroy said that it was an important first effort.

According to Pomeroy, the initial bond issuance is part of CEA’s larger goal to expand the number of homes it covers. In California CEA accounts for 70 percent of all residential earthquake policies sold, but so far only 12 percent of households have earthquake insurance.

Ideally, Pomeroy would like CEA to “develop more affordable insurance while remaining sustainable in the event of a big earthquake.” In keeping with that goal, CEA announced that it would implement a 12 percent rate reduction beginning 1 January, 2012.

CEA’s recent bond issue, completed last week, marks the first time the insurance company has accessed capital markets. In the past CEA relied solely on traditional reinsurance markets when it sought to transfer portions of its risk.

CEA decided to make the switch after noting that Japan also issues earthquake bonds and in the United States insurance companies sell bonds to back hurricane insurance.

“We knew there was appetite out there for earthquake risk in the capital market,” Pomeroy said. In fact CEA said that demand for the bonds exceeded its supply.

Based on the success of its initial offering, CEA is considering offering similar bond issues every four to six months, said Tim Richison, CEA’s chief financial officer.

CEA could receive an even bigger boost thanks to a bill currently being debated by Congress. The Earthquake Insurance Affordability Act, sponsored by Senator Diane Feinstein (D – California), would give CEA access to post-disaster federal loan guarantees. This would enable CEA to issue bonds after an earthquake which in turn would mean that CEA would save money by not having to go through a reinsurance market.

Currently, CEA has roughly $9 billion in claims-paying capability, with roughly $3 billion coming from reinsurance. The money from reinsurance markets has proven to be costly as CEA has paid nearly $3 billion to reinsurers in its fourteen years of existence.

Pomeroy said that the legislation would allow CEA to keep roughly half of the $3 billion currently in the reinsurance market making a significantly larger impact than its plans to issue more bonds.

“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,” the company said in a statement.