Florida leaders scrambling to keep sinking home insurance market afloat

Responding to public officials who have lashed out at the state’s largest homeowners insurance ratings agency over its threats to downgrade more than a dozen property insurers, a bipartisan group of Florida lawmakers last month supported spending up to $1.5 million to research their options.

Yet some in the insurance industry doubt the expenditure will successfully tackle the crisis within the private home insurance market, with one expert going as far as to call the ask “a great misuse of taxpayers’ money.”

“We have talked to several executives at other ratings agencies,” said Mark Friedlander, spokesperson for the Insurance Information Institute. “They have told us that most Florida domestic insurers either don’t meet their criteria, or if they did, they won’t qualify for an A-rating from their agency.”

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Friedlander declined to identify the executives, or the firms they work for. But the industry skepticism preceded the Sept. 23 announcement that yet another property-insurance company has been declared insolvent.

State to spend $1.5M on consultant as property insurance crisis deepens

The state Department of Financial Services (DFS) asked lawmakers in early September for up to $1.5 million to hire a consultant who could find alternatives to Demotech. The Ohio-based agency has a decades-long history in Florida, but state officials may explore creating a public ratings agency. 

The precursor to this financial ask was scathing letters fired off in September by the heads of the DFS and Office of Insurance Regulation, or OIR, both state entities tasked with regulating and managing Florida’s insurance market.

Almost two months earlier, in July, DFS and OIR learned that Demotech was looking to downgrade the ratings of “approximately 17” homeowners insurers in Florida.

Demotech President Joseph Petrelli, later clarified that this number was actually 27 companies. Florida Chief Financial Officer Jimmy Patronis called Demotech “rogue” in response.

The ominous ratings downgrades didn’t end up happening, but Demotech did ultimately revoke the ratings of two insurers and downgraded the rating of another one. Yet the state’s complicated and complex insurance crisis proved to be a difficult challenge in finding a quick and simple solution to the widespread policy cancellations and insurer insolvencies that have been frustrating consumers.

So far this year, six insurance companies have been declared insolvent, with the latest, FedNat Insurance Co., happening just days before Hurricane Ian made landfall on the state’s southwest coast, putting further strain on an already stressed market. As private insurers shed policies, Citizens Property Insurance Corp. — the state’s insurer of last resort — has picked up the slack to reach more than 1 million policies in August.

“I think when you see something that requires multiple levers to pull, multiple players to do things, that’s when it gets a little bit more complex,” said Gerry Glombicki, senior director at Fitch Ratings. “Because at the end of the day, what a homeowner wants is an affordable insurance policy from a company that has the financial strength to be around to pay the claim.”

Averting a crisis: Insurance company ratings matter… Are ratings required?

Florida doesn’t require insurance companies to get financial ratings, but entities in the federally backed secondary mortgage market do.

The secondary market is critical in the financial system. It is where investors and lenders buy and sell home loans and sometimes the servicing rights.

That allows mortgage lenders to write more business, allowing people to buy homes, as well as for existing homeowners to buy and sell their properties. Fannie Mae and Freddie Mac dominate this space, the two biggest federal home mortgage underwriters, holding 62% of mortgages in 2020.

Why do financial ratings matter? Property insurance is a must-have for mortgages. If an insurance company has its financial stability rating reduced, Fannie Mae or Freddie Mac may not accept a policy on a mortgaged property from that insurer. 

In this event, that company’s customers would have no choice but to go seek a policy from another company or their lender may force them into a policy. In either case, the new policy could cost more, or provide less coverage. 

Worst case is it could delay or jeopardize the closing of a property’s purchase, or put a property in foreclosure.

Getting a lower financial rating could mean that an insurance company can no longer get new business, or is put into insolvency and goes belly up.

“All those mortgages are required to have an insurance company that’s rated by a rating agency at a certain threshold,” said Paul Handerhan, president of the Federal Association for Insurance Reform (FAIR).

But in Florida, Handerhan said, the state OIR is also doing these financial health reviews. 

“It’s kind of duplicative,” he said. “They’re saying, ‘Listen, do we have to be so dependent on a third party private rating agency? We’re already doing the work ourselves.’”

Is the problem Demotech’s ratings, or that Florida insurers are weak?

But Friedlander calls this potentially $1.5-million plan a waste, and he’s hard-pressed to think of another agency that can do the job Demotech does.

“They (critics) are upset that Demotech is doing its job,” Friedlander said. “They use the same process no matter where or what company it is.”

Demotech’s Petrelli defended his company’s work, and role, in the financial food chain.

“Ratings provided by Demotech are based on detailed financial data, not the preference of insurers, public officials, or Demotech itself. This is how Demotech has always conducted its business, and how it will continue to do so wherever its ratings expertise is utilized,” Petrelli said in a statement.

There are other ratings agencies out there — such as Fitch, Moody’s, A.M. Best, to name a few — but those require insurance companies to have enough capital to receive those ratings, Friedlander said. Getting lower ratings will “add fuel to the fire on the home insurance crisis we’re facing today,” he warned.

Fitch Ratings’ Gerry Glombicki noted that his agency wouldn’t give some Florida insurers above a triple-B rating.

Fitch doesn’t rate any Florida-only homeowners insurance carrier, Glombicki said, but if it did, “they would be below investment-grade ratings,” meaning “in double-B land or lower.”

That suggests a perception that Florida-specific insurers are weaker financially, a view seemingly being confirmed by the number of insolvencies this year alone.

Demotech dates back to post-Hurricane Andrew era

Demotech emerged in Florida in 1996, four years after Hurricane Andrew laid waste to swaths of southern Miami-Dade County. At the time, 1992 was the worst year for the insurance industry, with Andrew causing $18 billion in insured damage alone. The national companies that once did business in Florida, brands such as State Farm and Allstate, decided to shed their risk and stopped writing new policies in the Sunshine State. The crisis reached a point where lawmakers even passed a six-month moratorium on insurers dropping customers.

Smaller insurers with less capital filled the void, but because of their limited size they couldn’t get a rating from the better-known ratings agencies. In addition, the smaller companies depended on reinsurance — insurance policies they obtained from industry giants to shore up whatever capital they needed.

“These smaller domestic companies are very dependent upon reinsurance to make up that difference in cash,” Handerhan said, referring to an insurance agency’s own insurance policy to ensure it can pay claims when disaster strikes. “If you’re a national insurance company that’s been in business for hundreds of years, your dependency on reinsurance is not as great as a company that’s focusing solely on the Florida market, which is very challenging.”

That’s where Demotech came in. The ratings agency did the painstaking work to analyze these smaller firms, and bring a measure of confidence, credibility and reassurance to the market.

The state DFS noted this in their budget request, saying Demotech “has been the only financial stability ratings organization willing to rate startup insurance companies and insurance companies with less than five years of historical operating experience in the state of Florida. Therefore, these insurance companies have limited options for obtaining ratings from an entity other than Demotech.”

Glombicki noted that insurance companies of this size only having one rating agency to go to could cause frustration for the companies as well as regulators trying to navigate uncertain waters of the current market.

“Any time you have just one single point of failure … whatever their actions become, then that can have an ever more outsized effect on that economy,” he said.

Are secondary mortgage lenders calling the shots?

Handerhan doesn’t think it’s necessarily the fault of insurance companies or Demotech, but of Fannie Mae and Freddie Mac.

“They could have addressed this issue years ago,” he said.

Handerhan said a ratings agency called Kroll has its second-highest rating, a triple-B — similar to Demotech’s S rating — accepted by Fannie Mae but not Freddie Mac. 

Neither entity accepts Demotech’s second highest rating, an S.

“That also creates problems because if you’re an agent, you’re trying to place business. There’s this confusion on whether this triple-B rating is good or not because it’s only recognized by one (entity) and not the other,” Handerhan said.

Fannie Mae and Freddie Mac only accept A ratings from Demotech. An A rating means that the company has a 97% confidence level that it can pay obligations if a 1-in-100-year storm hits. But Demotech’s second-highest level, an S rating, translates to a 95% confidence level.

Therein lies the problem, Handerhan said. 

“You’re having otherwise healthy companies potentially going into receivership, not being able to get reinsurance because they’re being viewed as a credit risk, not because of their financial situation, but the fact that the loan servicing industry or secondary mortgage market hasn’t established the recognition of these ratings yet,” Handerhan said.

Getting Fannie Mae and Freddie Mac to accept more ratings hasn’t been a priority until now, Handerhan said. He equated it to “dealing with an issue after the horses ran out of the barn.”

“Think about policyholders in the state of Florida, potentially struggling from the COVID response, struggling from inflation, a lot of different economic stressors and then getting hit with that,” he said. “And once they force-place that policy, it just gets added to your mortgage payment. So if you’re on a fixed income, and you can’t afford to pay that mortgage, what happens? They could actually start moving in the foreclosure proceedings.”

Another question is whether third-party ratings agencies are needed when the OIR often looks at the financial health of these companies.

But, then again, it goes back to whether Fannie Mae or Freddie Mac will accept the ratings from the state or a new public ratings agency. 

“If they don’t recognize it as acceptable, we’re back to the same problem,” Handerhan said. “It’s not as easy as just the state saying, ‘Hey, we want to start our own rating agency.’”

Hannah Morse covers consumer issues for The Palm Beach Post. Drop a line at hmorse@pbpost.com, call 561-820-4833 or follow her on Twitter @mannahhorse.