Florida Still Has Too Much Hurricane Risk
While Florida has billions of dollars invested in hurricane risk, we’ve been fortunate no hurricane has made landfall since 2005. However, there’s a really tricky thing about hurricanes — they are impossible to predict when and where they will hit in advance of the season.
As someone who makes forecasts for a living — economic forecasts, not weather — we know that using the past to forecast the future is fraught with difficulty. If you had taken a look at the history of hurricane landfalls in Florida, you would likely have never forecast zero hurricanes to hit Florida during any year. Frankly, had you forecast the number hitting Florida to be zero in the last 10 years, nobody would have believed you, but that’s what has happened.
And even though Florida’s Hurricane Catastrophe Fund has a substantial amount of cash, most Floridians don’t realize the CAT Fund borrows money (called pre-event bonding) to make sure we have enough resources in case a severe storm or series of storms hits.
The fund currently relies on about $2.7 billion in borrowed money. This gives the fund the liquidity it needs to cover its obligations for the year. However, the risk is that once we deplete the fund or have to draw it down substantially, Floridians are at risk in subsequent hurricane seasons. On top of that, we’ll have to pay back the borrowed money.
The fortunate thing is the lack of hurricanes hitting Florida has given the fund an opportunity to increase its cash on hand as it prepares for the inevitable hurricanes. However, Florida still has too much hurricane risk in its overall portfolio.
As is common with other types of portfolios, managers reduce risk by hedging, often by purchasing options that will protect their position. In Florida’s case, that would be purchasing reinsurance to protect a portion of the cash balance in the fund, or cover the money the fund borrowed in advance to be ready for the hurricane season. Managing Florida’s risk to preserve the fund’s cash so that Floridians will be paid in a timely manner for storm damages helps to lay off risk to others. Yes, it costs money, just as it costs money to insure any other asset.
Some people will say we don’t need to lay off any of our risk to those outside the state — and you know they just might be right — none of us will know until after the hurricane season ends. But we also know they can’t predict hurricanes with any certainty either.
We should remember that a storm the size of Andrew, and the damage that it inflicted on Florida, was widely believed to not be possible at the time. All the hurricane models had to be updated after Andrew, and insurance became almost unobtainable in many parts of Florida after that storm.
Even after the multiple hurricanes of 2004-05, we learned that a series of smaller storms can deplete the cash of the fund, and assessments or “hurricane taxes” are applied to insurance policies on Floridians’ homes, cars, boats and motorcycles.
And much has changed to increase our risk since the last hurricane landfall. Our state has grown by an additional 2.5 million people.
While it may be challenging to predict the future based on past experience, one thing is certain. It took Florida more than 10 years to build up the cash we currently have to help pay for future storms. Given that reinsurance costs are near historic lows, now might be a good time to insure some of the $2.7 billion Florida has borrowed.
May 17, 2016 | Articles | SunSentinel.com
By Dr. Jerry Parrish, Chief Economist, Florida Chamber Foundation