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Drought brings crop losses to commercial insurers, reinsurers

Federal program provides buffer for commercial market

Drought brings crop losses to commercial insurers, reinsurers

The drought devastating crops across the country also is affecting commercial insurers and reinsurers.

The federal government's heavy involvement in the coverage, however, will soften the effect of the losses on insurers' and reinsurers' financial results, experts say.

A complex arrangement between private insurers and the federal government, under which the government absorbs a portion of losses, acts as a major buffer for any losses private insurers sustain.

The National Drought Mitigation Center at the University of Nebraska-Lincoln last week said the drought has intensified over Kansas, Missouri, Nebraska and Oklahoma, but eased slightly in other areas during recent weeks.

According to the U.S. Department of Agriculture's Risk Management Agency, crop insurers have paid $948.6 million in claims this year through Aug. 13. It is too soon to estimate what the total claims will be, experts say.

Under the Federal Crop Insurance Program, a public-private partnership, 15 private insurance companies are authorized by the Risk Management Agency in Washington to write multiple peril crop insurance, according to Overland, Kan.-based National Crop Insurance Services, a crop insurer group. The program is overseen and regulated by the Risk Management Agency, which sets the rates that can be charged.

About three-quarters of the crop insurance policies are revenue-based, and protect farmers from declines in yields and crop prices, according New York-based rating agency Standard & Poor's Corp.

The federal government subsidizes the premiums farmers pay, and reimburses private insurers to offset operating and administrative costs that otherwise would be paid by farmers.


Insurers cede about 20% of their premiums to the government. They cede about 40% of their losses to the government during most years, according to S&P.

Under the standard reinsurance agreement between insurers and the federal government, insurers cede increasing proportions as loss ratios climb to mitigate losses in bad years, according to S&P. Maximum loss ratios are set by states for private insurers, experts say.

The program provides policies for more than 100 crops on about 268.7 million acres of land, according to the USDA.

Although many of the government-authorized crop insurers are specialty agricultural firms, the list includes units of Ace Ltd., XL Group Ltd. and Everest Reinsurance Co., among other multiline insurers and reinsurers.

A private market, including crop hail coverage, exists in addition to the multiple peril crop insurance market. “But the core of it all really starts with the multiperil crop insurance program,” said Moody's Investors Service Senior Vice President Alan Murray, who is based in New York.

“Basically, the federal crop insurance program is the main vehicle for the federal government to provide subsidies” to the agriculture sector, he said.

To date, the commercial insurance industry has reported relatively few losses from crop insurance claims.

“It's really too hard to determine at this point what indemnities will be for 2012, and ultimately if there will be an underwriting gain or an underwriting loss,” a spokeswoman for the National Crop Insurance Services said.


Rick Shanks, Kansas City, Mo.-based national managing director of Aon Risk Solutions' food system, agribusiness and beverage practice, a unit of Aon P.L.C., said the drought's effect on the commercial market “will not be substantial,” although it may be felt on certain insurers' books.

“I don't think on a global basis it's going to have a material impact,” barring a “perfect storm” of several other unrelated disasters, Mr. Shanks said.

While it seems “certain that drought losses will be very substantial,” many of these losses will be absorbed by the farmers themselves through their retentions, as well as by the federal government, Mr. Murray said. The drought “could have a much more significant impact” on the specialty crop insurers, he said. But “as far as the broad commercial market” is concerned, it is “hard to see that this will have a real impact,” he said.

Charles Cooper, president and chief underwriting officer of XL Re Ltd., said the reinsurer is exposed to the drought through a 30% quota share protection agreement it has provided to Heartland Crop Insurance Inc., which Everest Re bought last year. As a result of stop-loss coverage that protects its net exposure, XL's total exposure is about $10 million.

In addition, the reinsurer provides stop-loss protection out of its Bermuda operation, with which it has $40 million of total aggregate exposure, about half of which would be triggered by a loss ratio of more than 130%, he said.


Munich Reinsurance Co. said in its second-quarter earnings report it has set aside $200 million of loss reserves for crop losses, and there has been “no indication of significantly higher losses” to date.

During Ace's recent second-quarter earnings conference call with analysts, Chairman and CEO Evan Greenberg said the company will adjust its year-to-date crop loss ratio in the third quarter up by five points, which is equal to about $68 million in after-tax earnings. This would bring the combined ratio of the insurer's crop-related business to between 93% and 94%.

Mr. Greenberg also said if current drought conditions worsen and continue until harvest, the company's modeled worse-case loss “would be an additional...$200 million” after taxes.