Fitch Upgrades Citizens to ‘AA-‘, Outlook Stable

Fitch Ratings has upgraded the rating on the following senior secured bonds of the Citizens Property Insurance Corp., FL, PLA/CLA to ‘AA-‘ from ‘A+’:

–$1.1 billion series 2012A-1;

–$200 million series 2012A-3 (SIFMA floating rate notes).

The Rating Outlook is Stable.

The senior secured bonds are payable from pledged revenues, including: (1) net premiums and surcharges, (2) Florida Hurricane Catastrophe Fund (FHCF or CAT fund) reimbursements, and (3) emergency assessments. The primary security, and the rating, is derived from Citizen’s ability to levy emergency assessments on nearly every insurance policy holder in the state for an unlimited duration and in an unlimited cumulative amount to pay debt service on the bonds.

The upgrade to ‘AA-‘ from ‘A+’ on the senior secured bonds of the personal and commercial line accounts (PLA/CLA) reflects Citizens’ successful efforts to lower and transfer risk, reducing its exposure to claims and reducing the magnitude of potential future borrowing.

TAX-LIKE ASSESSMENT SECURES BONDS: The rating continues to reflect the security derived from Citizens’ ability to levy emergency assessments of up to 10% for each of the personal line and commercial line accounts on nearly every insurance policyholder in the state for an unlimited duration and in an unlimited cumulative amount to pay debt service on its bonds.

ASSESSMENT SUPPORTS SIGNIFICANT DEBT ISSUANCE: Although the emergency assessment is not a special tax, it shares many characteristics of a special tax, is not subject to Citizens’ insurance operations, and would support a significant level of bond issuance to cover major hurricane event scenarios.

CURRENT LIQUIDITY STRONG: Following no hurricane losses over the past nine years, Citizens’ financial position is much improved with strong growth in claims paying resources. In the event of storm-related claims, Citizens would draw on these expanded claims-paying resources first, before issuing post-event bonds.

CORRELATION WITH FHCF: Reinsurance coverage from the Florida Hurricane Catastrophe Fund (rated ‘AA’) accounts for a portion of Citizens’ pre-event resources, and thus any potential FHCF shortfall could affect Citizens’ own liquidity. The state has an interest in maintaining a well-functioning private insurance market.

WEAK INSURANCE MARKET: The Florida insurance market is more stable after storm-related disruption a decade ago, but remains vulnerable to future events. The market is currently dominated by smaller, thinly capitalized, Florida-only insurers that are mostly unrated or low rated.

SOLID LONG-TERM ECONOMIC PROSPECTS: Florida’s long-term economic fundamentals are strong with future growth expected. The pace of economic growth has accelerated and the housing market continues to show signs of improvement.

RATING SENSITIVITIES

Increases in Citizens’ risk profile and liability exposure that raise the probability or magnitude of potential post-event debt issuance relative to the existing resource or assessment base could pressure the rating.

CREDIT PROFILE

Citizens, a state-run property insurer of last resort, has statutory authority to levy assessments on insurers and policyholders in Florida following a large windstorm event to cover claims or debt service on pre- and post-event bonds. The rating on bonds issued for the PLA/CLA reflects in large part this access to special tax-like emergency assessments. The upgrade to ‘AA-‘ from ‘A+’ reflects Citizens’ successful efforts to reduce exposure in recent years through lowering policy count (‘depopulation’) and when necessary, through transferring risk with traditional reinsurance and capital market risk transfer activity. Lower exposure to claims, in combination with strong liquidity due to lack of storm activity, reduces the likelihood of future post-event borrowing, in Fitch’s view. Citizens’ improved risk profile and reduced liability exposure, however, remain untested by the impact of future storm events.

Citizens is a not-for-profit, tax-exempt entity, established by Florida statute to provide coverage for those unable to obtain insurance or affordable insurance in Florida’s voluntary market. Legislation has been adopted such that it is deemed a governmental entity and not an insurance company, and is thus not allowed to declare bankruptcy. Although it is regulated by the Florida Office of Insurance Regulation (OIR), it is not required to obtain or hold a certificate of authority issued by the OIR as is required for private insurance companies domiciled in the state. Citizens operates two distinct and financially separate credits – the Coastal Account and the Personal Lines Account/Commercial Lines Account. There is no cross-collateralization between the two credits. Fitch upgraded the rating on the Coastal Account senior secured bonds to ‘AA-‘ from ‘A+’ on April 20, 2015.

EMERGENCY ASSESSMENTS ARE TAX-LIKE

Ultimate security for the bonds is derived from Citizens’ ability to levy ’emergency assessments’ on nearly every insurance policy holder in the state for an unlimited duration and in an unlimited cumulative amount to pay debt service on the bonds. The emergency assessment base, derived from the premiums written on property and casualty insurance policies in the state, is large and diverse and provides strong support for bondholders.

The assessment is levied as a uniform percentage of up to 10% of that year’s aggregate statewide direct written premium (DWP) on the subject lines of insurance, or a maximum of 10% of the plan year deficit. The lines are very broad and include all property and casualty insurance, excluding only accident and health, workers’ compensation and medical malpractice. As the Florida economy overall was hit very hard by the recession, the base declined from a high of $37.6 billion in 2007 to a low of $33.3 billion in 2010. The base has resumed growth with expansion in the Florida economy and at the current level of $39.3 billion in 2014 it could generate up to $3.93 billion per year in support of debt service for each of the three operating lines of Citizens.

IMPROVED LIQUIDITY TO MEET CLAIMS

Emergency assessments, however, are not the first source of liquidity for Citizens to meet hurricane or wind event related claims. Citizens would first tap its available funds on hand, which include both accumulated surpluses and the proceeds of pre-event bond issuances, plus reinsurance from the FHCF.

Following several years of minimal storm activity, and with an active program to return policy holders to the private insurance market, Citizens expects to be able to meet the claims of a 1 in 100 year storm event from its available resources, without creating a ‘plan-year deficit’ that would give rise to the levying of an emergency assessment. Citizens forecasts PLA/CLA could withstand claims from an estimated one in 250 year storm without needing to levy any emergency assessments. This is an exceptional level of liquidity that Fitch assumes would be reduced if and when used to pay claims with storm activity.

If claims did exceed these resources, however, a plan-year deficit would exist and Citizens would be obligated to begin to levy various surcharges and assessments until its obligations are fully met. First Citizens would levy a surcharge for each of account on its own policy holders of up to 15% of the premium. This would generate approximately $500 million for the PL/CL accounts.

If the Citizens policyholder surcharge is insufficient to fund a plan-year deficit, Citizens must levy emergency assessments to recover the remaining deficit until the deficit is fully recaptured. Emergency assessments, which can be leveraged or used to pay claims, are expected to be the repayment source for post-event bond holders.

Pre-event bonds are regularly issued to provide liquidity to meet potential claims paying needs for upcoming hurricane season(s). Net proceeds are held in interest bearing permitted investments pending their use to pay policy claims. Due to the lack of storm activity over the past several years, bond proceeds have not been drawn upon to pay claims.

LOWER RISK EXPOSURE

Citizens has undertaken a deliberate program to reduce its policy count and risk exposure, primarily through ‘depopulation.’ It has established a private insurance clearinghouse through which all new policies and renewals are marketed. If private insurers can offer policies within a specified price band, that policy must be placed outside of Citizens. As a result, Citizens has reduced the policy count in the PL accounts by 62.8% since 2011 and its risk exposure 72.6% from $241 billion in 2011 to $66 billion in 2014. Similarly, for the CL accounts, policy count has been reduced 42% and risk exposure 51.2%, from $41 billion to $20 billion over the same time period.

This lower risk profile reduces the potential for future leveraging to meet claims and supports the rating upgrade. In the period following exceptional storm activity in 2004 and 2005, as major insurers left the Florida market, Citizens’ insurance lines expanded. The ‘AA-‘ rating assumes Citizens’ policies that support a lower risk profile remain in place even in the face of more typical storm activity. While many Florida insurers are also in stronger financial position due to the lack of storm activity, the Florida insurance market remains relatively weak and is dominated by Florida domestic insurers as the presence of national companies has declined.

Although Citizens does not anticipate the need to issue bonds during a 1 – 100 year storm event for the upcoming 2015 hurricane season, future storm activity may eventually require post-event bonding. It should be noted that the FHCF also bonds to meet its reinsurance obligations. Given the size of the assessment base, the potential assessments are not likely to be onerous; however, the capacity of the municipal bond market to absorb a high level of bonding remains a risk factor.

OTHER LEGAL PROVISIONS

Other bondholder protections are adequate. There is strong state non-impairment language, citing the state constitution, that indicates legislative intent that no action be taken to impair any bond indenture or financing agreement or any revenue source committed by contract to such bond or indebtedness. There is no revenue test for additional bonds and the unlimited capacity to issue debt is a credit weakness. There is a small debt service reserve for series 2012A, funded from proceeds, equal to maximum annual interest.

Source: Fitch Ratings