Lessons from the Texas Homeowners Insurance Crisis Bob Puelz ...

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the customer never filed a claim. Often, such customers discount the anxiety reduction benefit of insurance and focus on the relationship between their rising price and self-perceived risk, even if that perception is not well informed, a phenomenon that Svenson (1981) has documented in the auto insurance market. When additional price increases occur unexpectedly, consumer discontent is taken to a higher level. The practical objectives of this research are to shed light on a) whether particular perils were predominate in their effect on homeowners insurance prices; b) the extent to which observable prices embody information beyond expected losses that include deviations and other elements not easily understand by consumers; and c) the extent to which insurers and their customers were being switched to non-regulated carriers, or at least away from regulated carriers. As will be discussed, this research provides an analysis of the peril-specific relationship of changes in homeowners premiums and includes measuring the relationship between loss lags and other uncertainty deviations that may be difficult for consumers to understand, thereby giving policymakers insight into the negative consumer sentiment during this crisis. Evidence offered herein shows water losses stood out in their impact on premiums and that a lagged loss history and a factor for unexpected deviations were statistically significant in their association with premiums in the Texas homeowners insurance market. The balance of this study proceeds as follows. In Part II, a brief background into the Texas political and insurance climate during the recent homeowners insurance crisis is considered, along with a market analysis of the dual regulatory system that existed during the time. In Part III, a preliminary analysis of insurance company performance in the Texas homeowners market for regulated and non-regulated entities is contrasted with California and 2
Illinois with company-level data to address whether homeowners insurance costs have been rising for insurers. These states were chosen, in part, because a) they have experienced changes to insurance regulation; b) their size; and c) the availability of data that permits a contrast to Texas. In Part IV, a more rigorous empirical analysis is outlined and a panel data set is discussed. The data, supplied by the Texas Department of Insurance, range across the years 1996 through 2001. In this section, groundwork is developed to assess particular perils that are predominate in their effect on homeowners insurance prices and the extent to which observable prices embody information beyond expected losses. Part V sets out the findings of the testing and Part VI contains concluding observations. II. Background The Texas insurance environment is well populated (22 million people) and has displayed the attributes of substantial changes in insurance prices while maintaining both a regulated and a deregulated environment for the same coverage. The crisis analyzed in this paper had implications beyond the insurance market to the real estate market and the interest of lenders. 2 Moreover, insurers asserted that water-associated mold claims were at the heart of the problem, contending that the “policy never was intended to cover mold claims” and should not be treated as a dynamic contract subject to coverage interpretation over time. 3 On September 24, 2002, 2 The Texas insurance problem has received the focus of the Texas A&M real estate center http://recenter.tamu.edu/tgrande/vol9-2/1556.html, which discusses home affordability when insurance prices are increasing. The breadth of Texas insurance markets is included in the insurance commissioner’s annual report. At the site http://www.tdi.state.tx.us/, one may find annual reports over the past few years and is a good source of information on a variety of insurance market elements, including specific insurers and the percentage of the homeowners market they hold. Additional author’s note: Links to Web sites reported in this paper might no longer exist in precisely the same syntax. Readers should contact the site owner or the link’s author to locate the information referenced herein. 3 Hartwig (2002) presents the mold coverage issue, www.iii.org/media/hottopics/insurance/mold2/. While the “mold exclusion” in homeowners policies is common across states, the interpretation of a water loss differentiates Texas from other states. As discussed by Hartwig (2002) in “Mold and Homeowners Insurance..,” 3
Page 1 and 2: Lessons from the Texas Homeowners I
Page 3: I. Introduction Lessons from the Te
Page 7 and 8: [Table 1 about here] might have bee
Page 9 and 10: with the NAIC, and were sourced for
Page 11 and 12: To further explore the Texas settin
Page 13 and 14: amounts are summarized in Table 4.
Page 15 and 16: [Figure 4 about here] One glimpse i
Page 17 and 18: the average household size of an oc
Page 19 and 20: units that have been classified as
Page 21 and 22: as equations in levels. The Hansen
Page 23 and 24: while variations in perils help exp
Page 26 and 27: Table 1 Texas Homeowners Premiums W
Page 28 and 29: "Combined" Ratio $1.80 $1.60 $1.40
Page 30 and 31: Table 5 Texas Statewide Homeowners
Page 32 and 33: 35% 30% 25% 20% 15% 10% 5% 0% 60% 5
Page 34 and 35: Cumulative % of Texas Counties 100%
Page 36 and 37: Table 7 GMM Estimates of Empirical
Page 38: Harrington, Scott E. and Greg Nieha

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