‘How State Farm cashed in on a crisis’ (December 5)

The following is an analysis that is part of a graduate thesis. Learn more.

In her final story of the series, St. John returned to the reinsurance industry, focusing specifically on one firm, State Farm, and its profitable reinsurance arm. She concluded two things about State Farm’s activity in reinsurance: First, that it represented an “easier way to profit from homeowners” than offering insurance protection against hurricanes (4). Second, that the “desperate” need for insurance that State Farm helped create when it stopped offering hurricane protection in Florida allowed it to charge “some of the highest rates in the world.”

What support did St. John offer for her first conclusion, that State Farm had found easier means of profit from Floridians? First, what did she mean by “easier”? This potentially fatal ambiguity received clarification, however: By easier she meant the amount of profit generated vis the potential losses incurred on the investment.

According to St. John, “the potential loss from a major hurricane is measured in billions of dollars” for standard insurers, like State Farm used to be. But through its investment in a reinsurer, DaVinci, State Farm stood to lose in a major hurricane only what it put in, or around $350 million (12–13). It seems fair to infer that this calculation was what St. John referred to when she said “easier.” And that statement, too, provided really the only reason St. John needed to demonstrate her claim, although she lacked visible evidence to support her citation of particular figures regarding potential profit and loss.

Her second conclusion, that the desperation State Farm helped create allowed it to charge very high rates, was less acceptable, however. She offered the following reasoning to support her conclusion.

First, Florida and the Gulf region in general were distressed markets after Katrina and State Farm’s subsequent departure from hurricane insurance. This point was not belabored in the story, but probably could be taken as a safe assumption for readers, and a near-certain assumption for those who followed St. John’s series.

Second, that DaVinci had a habit of pursuing business in distressed markets. She cited the company’s “shift[ing] its attention to hurricane risk” after Katrina, eventually becoming “the largest provider of hurricane coverage to Florida-based insurers” (40). She also quoted the CEO of Renaissance Reinsurance, another partner in DaVinci:

“Where there’s gunfire we don’t run toward the bullets, but we like to get involved when there’s still smoke in the air,” RenRe CEO Neill Currie told the Herald-Tribune two years ago at a reinsurance gathering in Monte Carlo. “It works out pretty well, because we come riding in on the horse.” (43)

At this point, readers had a fairly clear sense of the “desperate” situation facing Floridians. The justification for saying that that desperation allowed DaVinci (and State Farm) to charge world-high rates came from interviews with reinsurance brokers:

Interviews and documents examined by the Herald-Tribune show DaVinci focused on selling the riskiest, hardest-to-get coverage most critical to Florida’s weakest property insurers.

There is little competition in that niche, and reinsurance brokers said the price for such protection is among the highest in the world, sometimes more than 50 cents for $1 in coverage.

“ ‘Opportunistic’ is the absolute key word,” said John DeMartini, vice president at Towers Watson, a national reinsurance brokerage. “DaVinci cleverly stepped into the void.” (45–47)

These interviews went some way toward demonstrating St. John’s conclusion. But, importantly, they ended up demonstrating a different, weaker version of the conclusion. St. John initially wrote that State Farm’s capitalization on desperation allowed it “to command some of the highest rates in the world.” But she cited evidence showing only that the general cost of reinsurance for a particular kind of property was “among the highest in the world” — not that DaVinci in general charged rates among the highest in the world, or that it even charged unusually high rates in the specific domain of risky property. Seemingly anybody could have charged high rates to offer reinsurance for such property. This conclusion, then, was harder for readers to accept.

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