Insured earthquake losses estimate rises to $4.5 billion: financial rating firm takes another look at Farmers.

The official insured loss total for the Northridge earthquake was increased to $4.5 billion last week, as a major rating company announced it would review the financial rating of Farmers Insurance Group of Cos. as a result of that L.A.-based insurer's losses from the Jan. 17 quake.

Property Claims Services, the official insurance authority on insured losses arising from catastrophes, last week increased its estimate of losses from the Northridge earthquake from $2.5 billion to $4.5 billion -- making it the second costliest U.S. disaster in history.

A.M. Best Co. announced last week that it would review Farmers' A rating because its $600 million worth of losses will eat up 15 percent of Farmers' capital. An A rating is A.M. Best's third-highest rating and means the company's financial health is excellent.

In explaining its decision to review Farmers, Oldwick, N.J.-based A.M. Best stated that the loss would further increase Farmers' "already aggressive operating leverage."

Ratings by A.M. Best and other rating agencies are used by insurers in advertising, to sell insurance to policyholders and to attract investors. A poor rating could adversely affect a company's ability to sell insurance, because potential customers use the ratings to judge insurers' ability to pay claims.

Farmers issued this statement in response to A.M. Best's review: "We are confident the steps we are taking in our risk management strategies and capital initiatives to increase our financial flexibility will resolve A.M. Best's questions regarding the financial strength of the Farmers Insurance Group of Cos."

Farmers' capital is expected to decrease from $2.8 billion to $2.4 billion as a result of the earthquake, after the effects of tax breaks and reinsurance are figured in, A.M. Best stated.

Farmers spokesman John Millen declined to say how much reinsurance the company had, saying that information was "proprietary."

However, A.M. Best stated that "only a modest portion" of Farmers' $700 million, multi-year reinsurance plan provides catastrophic protection.

Farmers is one of three insurers whose ratings are being reviewed by A.M. Best as a result of earthquake losses which significantly depleted capital. The others are Woodland Hills-based 20th Century Industries Inc. and New York-based Navigators Group.

Navigators, parent of Navigators Insurance Co. and NIC Insurance Co., announced that its pretax losses from the quake of $20 million to $25 million will cut its capital by 20 percent. A.M. Best is reviewing that group's A rating.

In addition to having its A-plus rating under review by Best, 20th Century's AA rating is also being reviewed by Standard & Poor's Corp.

A.M. Best has 15 rating categories from A-plus-plus to F. Any rating of B-plus or above is considered "secure," an A.M. Best official said.

Standard & Poor's has 22 rating categories, with AAA being the top rating, and anything below BBB-minus considered below investment grade, a S&P official said.

S&P placed 20th Century on its "credit-watch" on March 31, after the company announced a $325 million loss from the earthquake, which will decrease its capital by approximately 26 percent.

20th Century spokeswoman Jeanne Oellette said homeowner insurance policy writing "has slowed down," as the company has "discontinued all of its advertising and marketing" of homeowner policies.

Insurance industry experts told the Business Journal that there is increasing pressure on insurers to increase reinsurance coverage and to reassess possible exposure to catastrophic losses suffered in the Northridge quake.

With total insured losses of $4.5 billion, the Northridge earthquake of January 1994 surpasses Hurricane Hugo, which caused $4.2 billion worth of insured losses in 1989, said Jim Welsh, claims consultant for Rahway, N.J.-based Property Claims Services.

Hurricane Andrew of 1992 is still the worst disaster for insured losses for the U.S. insurance industry, with $15.5 billion worth of insured losses, Welsh said.

Insurers have reported receiving more than 300,000 claims from the Northridge earthquake, Welsh said. Property Claims Services had in February pegged the loss total at $2.5 billion, but "the number of claims was higher than expected, and the severity of claims was higher than expected," Welsh said.

Bob Mebus, co-director of insurance ratings for S&P, said that enormous insurance losses from catastrophes are causing the New York-based financial rating firm to place more emphasis on catastrophic reinsurance.

The fact that the two biggest insured losses in U.S. history have occurred in the last two years illustrates that "the severity of catastrophes is clearly getting much bigger," Mebus said.

Alan Levin, co-director of insurance ratings for S&P, said the financial ratings firm is working on developing a new uniform system for insurers to assess their worst case scenario for catastrophic loss, known in the industry as "potential maximum loss" or PML.

"You might say that the Northridge earthquake is the most recent illustration that we can't keep doing things the way we have been," Levin said.

A.M. Best, in its statement on Farmers' rating review, said it is looking at the L.A. insurer's future possible losses from future earthquakes.

"Best is awaiting updated earthquake modeling information from Farmers to estimate its potential exposure to the group," said A.M. Best Vice President Eric Simpson.

Risk Management Software Inc. -- a computer firm which develops PMLs, or worse case scenarios, for insurance firms -- has seen a marked increase in business since the Northridge quake, said Bret Comoli, vice president of marketing and sales for the Menlo Park, Calif.-based firm.

A dozen major insurers with multimillion-dollar losses in the Northridge quake have called Risk Management Software in the last few weeks asking for new PMLs for earthquakes and other catastrophes, Comoli said.

One company called last week and said it needed a new PML model right away because it is purchasing more reinsurance and the reinsurance deal is contingent upon the loss-exposure estimate, Comoli said.