The California Earthquake Authority’s (CEA) reinsurance and risk transfer tower has contracted by a further 6% to $7.993 billion as of November 1st, 2024, as it opted to non-renew contracts to limit the amount of capacity in excess of its minimum 1-in-350 year level as policy count and exposure continues to fall.
Earlier this month, we reported that after the CEA chose not to renew $648.5 million of traditional reinsurance protection that expired at the end of July, the size of its reinsurance and risk transfer program decreased by 7% to $8.5 billion.
In March 2022, the CEA’s Board approved the recommendation to revise its target to a range of 1-in-350 years to 1-in-500 years. Since then, this has been the CEA’s approach to its reinsurance and risk transfer needs, and its risk transfer team has succeeded in managing within this approved claim-paying range.
According to the CEA, these efforts have been aided by the design of its risk transfer tower, “which intentionally staggers reinsurance contract expirations and uses multi-year agreements so that only a portion of the CEA’s total risk transfer capacity renews and must be replaced at any given time.”
During 2024, the CEA says that it has “reaped the benefits” of this staggered approach to reinsurance, as staff elected to non-renew contracts to limit the level of capacity above the minimum 1-in-350 year level as the claim-paying capacity requirements declined during the year.
“This decision resulted in a saving of more than $30 million in ceded premium. As of November 1, 2024, the CEA’s claim-paying capacity stood at approximately a 1-in-380 year level,” explains the CEA.
As a result of these non-renewals in 2024, as of November 1st, the size of the CEA’s reinsurance and risk transfer program has decreased again, by around 6% from the $8.5 billion to $7.993 billion as it decided to non-renew a further $511 million of contracts.
At the September 12th, 2024, meeting, Tom Hanzel, CEA’s Chief Financial Officer (CFO), revealed that on September 30th, $511 million of the CEA’s reinsurance would be expired, but said that although the October renewal was approaching, “the CEA will defer all of that and will revisit where it sits in the program at the January 1st renewal, which will further help bring down that return period modestly.”
Throughout 2024, the CEA’s PML, so the 1-in-350-year return period, dollar amount has been declining, and at a faster rate than its reinsurance agreements are coming up for renewal.
Looking ahead to 2025, the CEA states that if it continues to experience a decrease in policy count and exposure, the amount of risk transfer it needs to maintain the minimum PML is expected to decline further.
The CEA explains: “While the CEA adjusts to changing conditions in the California homeowners market and the global risk transfer market, CEA staff recommends maintaining the current range of 1-in-350 years to 1-in-500 years as the claim paying capacity target for 2025.
“As in recent years, staff proposes a 2025 risk-transfer strategy that will include risk-transfer programs of both traditional and transformer reinsurance that will be deployed appropriately and efficiently to meet the CEA’s claim-paying capacity target. The CEA will continue to use three equally blended earthquake models to assess and maintain its claim-paying capacity for 2025.
“CEA staff will strive in each 2025 transaction to obtain the most advantageous pricing and contract terms, accessing both the worldwide reinsurance market and other capital markets for reliable and secure risk-transfer. In keeping with past practices and Board preferences, staff will report each transaction to the Board at the first Board meeting following the effective date of each transaction.”
The recent Board meeting material also reveals another interesting recommendation concerning Gallagher Re, the CEA’s principal reinsurance intermediary.
Currently, the reinsurance broker performs modelling for the CEA’s risk transfer program on a quarterly basis. However, with the CEA’s policy count and exposure falling monthly, its claim-paying capacity has decreased, which the CEA feels requires more focused and frequent monitoring.
“Staff recommends the Board approve an amendment to the Gallagher Re Reinsurance Intermediary Services Agreement to provide for monthly modeling runs (8 additional runs for each of the two models used) for an additional $200,000 per year in fees, with resulting aggregate annual fees of no more than $4,600,000 to the reinsurance intermediary firms,” reads the document.
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