Insurer Seeks Lower Loan Costs
March 07. 2008
The state-run insurer is looking to convert $4.75 billion in variable-rate notes to fixed-rate debt to protect itself from rising interest costs from the current credit crisis.
Citizens Property Insurance already has bought back about $2 billion of the $4.75 billion in variable-rate securities on which interest rate resets every seven and 28 days.
Traditionally fixed-rate notes carry higher interest rates than variable-rate securities. But because of the concern about liquidity in the credit markets right now, the fixed-rate notes are currently more favorable, said Bruce Douglas, chairman of Citizen's board of governors.
The buy back has no effect on policyholders.
The notes are part of the borrowing that Citizens did in the past four years to augment its cash supply should it have to pay claims after a massive storm. Citizens is the largest insurer of homes, condos, rental apartments and mobile homes in the state, with nearly 1.3 million policies on its books.
Citizens has a total of $5.8 billion in debt outstanding. It also has another $4 billion in surplus and operating capital.
By buying back these securities, Citizens has reduced its overall liquidity, and that has lawmakers as well as company officials concerned.
Citizens has been asked to testify before the Senate Banking and Insurance Committee on Tuesday to discuss the problems it's having in the variable-rate market.
Douglas said Citizens executives are in New York City this week to meet with investment bankers to discuss the possibility of converting some, if not all, of the variable-rate notes to fixed-rate bonds.
At a board meeting next Thursday, the governors will consider a financing plan of action and are expected to vote to give Citizens CFO Sharon Binnun and financial advisor Raymond James & Co. the authority to at least refinance some or all of these securities. The board will consider several financing options.
Citizens parks these borrowed funds in short-term securities, earning enough on the investments to at least cover the interest it has to pay on the debt. In some cases, it even earns a bit of interest goes into its coffers.
Because of the turmoil in the credit markets, rates have risen sharply and now Citizens finds itself paying more in interest on the notes than it was earning on the invested funds.
In bond market terms, that's called negative arbitrage.
Usually institutions like Citizens want to avoid negative arbitrage situations because they can be costly. So far this negative arbitrage has cost Citizens $11 million from August 2007 to January. But rates spiked dramatically in February, so the cost is significantly higher once the February data is compiled.
Douglas said the variable-rate securities had worked fine for the insurer until the municipal market began to slide on credit worries.
The insurer's variable-rate securities are tax-exempt, meaning the investors who buy them don't have to pay federal taxes on the income they earn from the notes.
Citizens had been paying between 7 percent and 9 percent on the auction-rate securities. But rates have shot up to about 15 percent.
Citizens has had at least one failed auction so far. That means institutional investors weren't buying the notes when the rates reset every seven or 28 days.
To avoid further failed auctions, Citizens stepped in and started buying back its own securities, using the borrowed funds.
The higher rates are a cost that "isn't sustainable," said Christine Turner, director of legislative affairs for Citizens.
The higher rates Citizens is having to pay on this debt don't stem directly from worries about the insurer's financial strength. But they come from the turmoil in the municipal bond market and the downgrading of several bond insurers that had covered a large number of auction-rate notes.
Bloomberg News Service reported earlier this week that issuers, including state and local governments as well as agencies are looking to refinance some $166 billion of variable-rate notes.
By BEATRICE E. GARCIA
Source: THE MIAMI HERALD
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