The difficulty is, EQC has never fully recovered from the 2010/11 Canterbury earthquakes and only has $370m in its Natural Disaster Fund.
So, if there was a massive disaster tomorrow, the Government would have to give EQC $1.63b to help it pay for the first $2b of claims before it could use its reinsurance cover.
While the Natural Disaster Fund is being bolstered by home insurance policyholders paying higher levies (to receive more cover), it is also being depleted to cover claims related to Cyclone Gabrielle and flooding in the upper North Island earlier this year.
Speaking to the Herald, EQC chief executive Tina Mitchell said EQC is yet to settle 90 per cent of the 6500 claims it received in relation to the weather events.
She said it was too early to say whether the fund would effectively run dry and need a top-up from the Crown.
Either way, there will for some years be a gap between what’s in the Natural Disaster Fund and the current $2b reinsurance deductible.
This will expose the Crown to paying for residential property damaged in a disaster.
On the upside, Mitchell was proud of the amount of reinsurance EQC secured at a time the reinsurance market is suffering losses from various weather events and wildfires, as well as Covid-19 and war in Ukraine.
Mitchell said reinsurers viewed EQC relatively favourably because the perils it covers aren’t all impacted by climate change. The modelling EQC has done also means the risks it faces are relatively well understood.
Catastrophe bonds explained
As for the catastrophe bond, this is seeing 16 offshore investors (big investment funds, etc) put $225m in a fund that EQC can access (if terms and conditions are met) in the event of a disaster.
Investors will receive interest for the money in the fund, as well as a reinsurance premium of 8.75 per cent a year.
If EQC doesn’t use the funds over the next four years, investors will get their money back.
The $225m can only be tapped into in the event of a disaster costing EQC more than $2b.
So, EQC would cover the first $2b of claims costs, the catastrophe bond would then be triggered, before EQC could access its traditional reinsurance cover for the next $8b of claims costs.
Mitchell said the bond gave EQC access to a broader set of investors. It also diversified its reinsurance programme, as traditional reinsurance contracts need to be renewed annually, whereas a catastrophe bond contract usually has a duration of three to five years.
EQC requested up to $250m from the market, before securing $225m for the bond.
Mitchell said that while catastrophe bonds often cover specified disasters, the bond EQC issued (in New Zealand dollars) will cover all the perils EQC provides cover for.
Asked whether the administrative cost of using a relatively complex instrument like a catastrophe bond was worth it, Mitchell noted that doing something for the first time was always more expensive, but the cost would fall if EQC was to issue another bond.
She said EQC would see how the arrangement worked before committing to further issuances.
She believed EQC was among the first (if not the first) New Zealand insurer to issue a catastrophe bond.
