Affordable Housing Institute : US

What does a hurricane do to housing, and housing affordability? 

 

Major capital expenditures heading this way …

 

The answer’s more complex than at first it appears, and reveals much about the nature of insurance.

 

Insurance is as necessary as finance to a functioning real estate market.  Yet the insurance business lives or dies on massive disruptions. 

 

Property insurance is a topsy-turvy casino with odd incentives:

 

• You bet that something terrible will happen to you.
• The insurer bets that it won’t. 

You win by losing. 

 

Somebody just lost big …

 

For each form of economic damage, there is also a form of hazard insurance one can buy:

 

1.       Property damage. 

 

You mean that isn’t a lanai?

 

2.       Rent loss because you cannot very well charge people to live in a home without roof, heat, power, or plumbing. 

 

 

Gives new meaning to turnover

 

3.       Renter’s contents insurance, which covers personal property in a damaged, vandalized, or burgled apartment. 

 

 

That’s not what we meant by attached garage

 

As the National Association of Realtors observes:

 

The availability and affordability of property and casualty insurance is essential to the real estate market’s functioning.  Property casualty coverage is an underwriting requirement for conventional, government-assisted and commercial mortgages.  Without insurance, lenders will not lend; without mortgages the great majority of sales transactions cannot be consummated. Without continuing insurance coverage, existing homeowners cannot remain current on their mortgage obligations and may find themselves subject to expensive lender forced-place coverage or possibly foreclosure.

 

Meanwhile, by buying insurance (of any kind), you as the insured are laying off risk – you’re giving it to somebody else who is financially much larger and better able to absorb the low-probability/ high-cost event.  The insurer makes money because you will pay (in premiums) more than the expected cost of the loss, because the peace of mind is worth it to you.  You can recover from small losses, but a large one is fatal.

 

The insurer, meanwhile, is competing with other insurers to capture your premiums.  So when things go well, insurance rates gently and stealthily drift downward as the observant herd of insurers becomes ever more comfortable with risks that have grown ever more familiar.

 

And then one year Florida gets hit with three hurricanes in a row.  The insurers are now shocked to discover how much everything costs, so they do three things reflexively:

 

1.       Question claim amounts.

2.       Jack premiums.

3.       Shrink credit availability. 

 

As Monty Python put it:

 

VICAR: It’s about this letter you sent me regarding my insurance claim.
DEVIOUS: Well yeah, it’s just that we’re not as of yet, totally satisfied with the grounds of your claim.
VICAR: But it says something about filling my mouth in with cement.
DEVIOUS: That’s just legal jargon you know.
VICAR: But my car hit by a lorry standing in the garage and you refuse to pay my claim.
DEVIOUS: Well, Reverend Morrison in your policy… (Gets up and starts rooting through a filing cabinet. Finds papers in a coat in the cabinet)… in your policy. Its states quite clearly that no claim you make will be paid.
VICAR: Oh dear.
DEVIOUS: You plucked for our ‘never pay policy’ which, uhh, which if you never claim is very worthwhile but you uh had to claim and there it is.
VICAR: Oh, dear.

 

As the Realtors glumly put it:

 

Property casualty insurance has become increasingly more expensive and more difficult to obtain in the conventional and government assisted housing and the commercial markets. A number of factors account for this problem.  These issues include natural disasters, mold, terrorism, market share competition and the slumping value of insurance investment portfolios. In an effort to retrench, insurers are declining to write new policies, refusing to renew existing policies, and increasing premiums on existing policies.

 

The consequences of a major catastrophe like a hurricane are thus sequential, and surprising:

 

1.       Owners of property suffer substantial damage (roofs being blown off a favorite adventure) and spectacular disruption of their businesses.  Bad!

2.       Insurers pay massive claims, running into the billions.  Bad!

3.       Property owners rebuild, often to a higher standard than before.  Good!

4.       Insurers raise their premiums going forward.  Bad!

5.       Latent defects in property are exposed (literally!) so building codes improve.  Good!

 

The last point bears particular emphasis.  Because of its inherent cost-value gap, affordable housing is under much tougher cost constraints as resource allocators stretch the scarce soft debt and soft equity.  Construction is seldom luxurious, often penurious, sometimes injurious, leaving residents furious. 

 

When P. J. O’Rourke wryly mocked NPR’s standard headline, “World to end tomorrow — poor, minorities hardest hit,” he was more right and less wry than he knew.  When economic catastrophe strikes, the less capitalized are more damaged.  Suddenly the insurers rediscover not only the probability of risk, but the scale of cost.  Then their insurers wake up and apply what they call ‘credit discipline’ — they spike up rates and withdraw insurance from large swathes of the renter population.  Insurers have the perception — which is not entirely racist or economist in nature, that’s a discussion for another day — that ‘those people’ put more heavy wear on properties.  

 

So what happens? 

 

1.       Affordability is placed under further stress.

2.       Cost-value gaps increase.

3.       Meanwhile, a lucky few properties, whose owners were more far-sighted and who updated their policies, get an insurer-paid makeover.

 

And the cycle begins all over again …

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