Reinsurance Focus

The NAIC's Reinsurance Regulatory Modernization Framework is now the subject of an redlined exposure draft, with a short comment period open until September 5, 2008. Florida and New York also have reinsurance collateral-related proposals pending. Jorden Burt partner Anthony Cicchetti summarizes these proposals in a Special Focus feature. Read the article.

This post written by Rollie Goss.

With this post we are expanding the content of Reinsurance Focus to include an occasional article of greater length containing a more detailed analysis of a reinsurance or arbitration-related topic of interest. These posts will be placed in the Special Focus category of our blog, and will consist of a short executive summary of the article linked to the article. We hope that this somewhat more detailed exploration of selected topics adds to our readers’ enjoyment of our blog. Our current intention is to have one such Special Focus post about every other month. Following is the executive summary of our first such article.

The manifest disregard of law doctrine has been referred to as a “judicially created” basis for vacating arbitration awards, which arguably is not expressly provided for in the Federal Arbitration Act (“FAA”). In the recent Hall Street Associates opinion (see the March 28, 2008 post), the United States Supreme Court stated that the grounds for vacating arbitration awards set forth in the FAA are the exclusive grounds for vacating an arbitration award, which may imply that what some courts have described as judicially created bases for vacation, such as the manifest disregard of law doctrine, are not viable. In the accompanying article, we briefly explore the current status of the manifest disregard of law doctrine and whether it has a future after Hall Street Associates. Read the article.

This post written by Rollie Goss.

Other states are taking less substantial steps, only changing the regulatory requirements for their captives. The Vermont Insurance Department adopted a new captive regulation, effective April 1, 2007, which changes the reporting requirements for Vermont-domiciled captives that reinsure life insurance policies. Meanwhile, the Utah Department of Insurance has amendments to its captive rules under consideration, which would mainly address reporting and fee requirements. The New York Insurance Department has a separate web site area touting the advantages and benefits of a New York-domiciled captive.

This week we present a two-part posting on changes regarding captive insurer regulation. The competition is on among the states for hosting captives. The competition consists of simpler regulation and lower capital requirements. On May 10, the Governor of Montana was presented with a new captive bill for signature which reduces capital requirements for protected cell captives 50%, from $1 million to $500,000, with a captial requirement of $250,000 for protected cell captives with 10 or fewer homogenous cells. The capital requirement for captives that reinsure admitted insurers issuing policies is also to be reduced by 50%. Other regulatory simplification is included in the bill. An article about this bill appears in the May 21 issue of Business Insurance. Meanwhile, the Arizona Governor recently signed a new bill which lowers the capital requirements for Arizona-domiciled protected cell captive insurers from $1 million to $500,000, and makes many changes to simplify regulation and reduce the burdens of regulation. A summary of the Arizona bill is also available.

Apart from legislative activity in the area of cat funds and cat risk reinsurance, there have been three recent items of interest with respect to alternative reinsurance arrangements:

• Hanover Re, which has been very active in securitizing reinsurance risks, has securitized reinsurance recoverables valued at approximately $1 billion, to accelerate the cash flow in that area;
• The World Bank has created a regional catastrophe risk insurance pool that is currently covering 18 Caribbean countries. Two press releases describe the pool and the initial funding for the pool, which will purchase reinsurance in the private market. A detailed report available at the World Bank's Internet site provides additional detail;
• Guy Carpenter & Company and MMC Securities Corp. has issued a detailed report titled The Catastrophe Bond Market at Year-End 2006, providing an annual review of the catastrophe bond market and an update on bond transaction activity and market dynamics. It provides interesting descriptions of different kinds of alternative risk transfer mechanisms, such as catastrohe bonds, side cars, and extreme mortality transactions, with listings of transactions in each category.

With January comes the new sessions of most state legislatures. We have been reviewing the new bills filed in the state legislatures relating to reinsurance. There is one clear trend: many state legislators wish to provide for the creation and regulation of captive insurance/reinsurance companies in their states, or to amend existing rules relating to captives. While it is, of course, impossible to predict how many of the filed bills will be enacted into law, here is a sampling of the captive bills filed so far:

• Arizona: HB 2294 (adding new provisions relating to captives);
• Connecticut: Bill 58 (formation and licensing of captives) and Bill 60 (establishing a captive insurance division within the Insurance Department) (the full text of these bills is not available as of this posting);
• Hawaii: HB 272 (allowing captives to be formed as limited liability companies, specifying minimum capital and surplus requirements and increasing investment flexibility);
• Indiana: HB 1417 (specifying the requirements for a captive to do business in Indiana, imposing fees and premium taxes and establishing a captive insurer trust fund);
• Missouri: SB 215 (amending the existing statutes to add 25 new sections relating to the regulation of captives – bill summary);
• Montana: SB 161 (broad revision of statutory regulation of captives);
• Nebraska: LB 121 (Captives Insurers Act);
• New Jersey: SB 1444 (broad regulation of captives); and
• West Virginia: SB 93 (adding three new sections relating to captives).

New Florida Governor Charlie Crist has signed his first bill into law, House Bill 1A from a special session of the Florida Legislature dealing with insurance rates for homeowners. One of the principal goals of the special session was to increase the availability and lower the cost of homeowners insurance, particularly in coastal areas. A House of Representatives staff analysis of the bill contains background information about the insurance market in Florida and the impact of the eight major hurricanes that hit Florida during the 2004 and 2005 hurricane seasons. The staff analysis reports that claims payments were made relating to the eight hurricanes totaling $33,346,477,364, and describes the resulting impact on the number of insurers writing homeowners coverage in the state, the cost of coverage and the cost of reinsurance.

This 176 page bill makes extensive changes to the Florida property insurance and reinsurance markets. The changes are summarized in the staff analysis. Among the changes is expanding the Florida Hurricane Catastrophe Fund to provide a “temporary emergency program” for the 2007, 2008 and 2009 hurricane seasons providing less expensive reinsurance for insurers. Savings from the reduced cost of reinsurance must be passed on to consumers. It is unclear what the impact of this new law will be on the reinsurance market, but a large amount of reinsurance premium may now be diverted from the private reinsurance market to the public avenues set up or modified in this bill.

Alabama has adopted a captive insurance law and associated regulations, which include provisions for capitve reinsurers. The regulations became effective August 11, 2006.

Courts are sometimes asked to consolidate mutliple arbitrations relating to insurance and reinsurance matters. This issue has been the topic of three recent court opinions.

• In Markel International Ins. Co. v. Westchester Fire Ins. Co., Case No. 05-5522 (Aug. 10, 2006), the United States District Court for the District of New Jersey found that since the issue of the type of arbitration proceeding, including whether multiple arbitrations should be consolidated, was not a “gateway” issue under the Supreme Court’s analysis in Green Tree Financial Corp. v. Bazzle, 539, U.S. 444 (2003), the arbitrators, rather than the courts, should decide whether to use multiple arbitration panels or a consolidated panel.
• In Allstate Ins. Co. v. Global Reinsurance Corp., Case No. 06-4419 (Aug. 8, 2006), the United States District Court for the Southern District of New York held that arbitrators should decide whether to consolidate two arbitrations related to two facultative reinsurance certificates.  The Court strongly implied that if the reinsurance agreements contained a provision relating to consolidated arbitrations, that the Court could have acted to enforce whatever the parties had agreed to in that regard.
• In Certain Underwriters at Lloyd’s v. Westchester Fire Ins., Case No. 06-1457, the United States Court of Appeals for the Third Circuit currently is accepting briefing of an appeal of a decision of a District Court decision that required separate arbitration panels in multiple arbitrations.  The briefs suggest that conflict exists on this issue between a pre-Bazzle unreported Third Circuit opinion and a post-Bazzle Seventh Circuit opinion.

Expect further developments in this area.

The principal basis for seeking vacation of an arbitration award, other than the grounds contained in the Federal Arbitration Act (“FAA”) (9 U.S.C. section 10), is that the award was made in manifest disregard of law. Five of the United States Circuit Courts of Appeal have issued opinions dealing with this principle in recent months, with three of the opinions being issued in a ten day span during early August. All of these opinions hold that vacating an arbitration award on this basis is an extraordinary occurrence.

• The Eleventh Circuit issued a very strong statement as to the finality of arbitration awards, holding that to prove manifest disregard of law, one must submit clear evidence that an arbitrator was conscious of the law and deliberately disregarded it. B. L. Harbert Internatiuonal, LLC v. Hercules Steel Co., Case No. 05-11153 (11th Cir. Feb. 29, 2006). The Court strongly cautioned the bar against appealing arbitration awards on the basis that the result was unacceptable.
• The Seventh Circuit held that manifest disregard of the law is limited to situations in which arbitrators “direct the parties to violate the law ….” Wise v. Wachovia Securities, Case No. 05-2640 (7th Cir. June 7, 2006). The Seventh Circuit concluded that due to the extraordinarily narrow grounds for vacating an arbitration award, the FAA really does not provide for the “judicial review” of arbitration awards.
• The D.C. Circuit held that the manifest disregard of law standard requires proof that the arbitration panel ignored well defined, explicit law that was clarly applicable, emphasizing that decisions based upon debatable points of law and disputed issues of fact did not meet this standard. Kurke v. Oscar Gruss and Son, Inc., Case No. 05-7018 (D.C. Cir. July 18, 2006).
• The Ninth Circuit recently held that a decision on choice of law did not meet the manifest disregard of law standard since it was not “completely irrational.” Parsons v. Polen, 2006 WL 1082820, Case No. 04-35654 (9th Cir. April 25, 2006) (unreported opinion).
• In the only opinion that vacated an arbitration award, the Fourth Circuit vacated an arbitration award, where an arbitrator implied a one year statute of limitation into an agreement that was silent as to the time for making a claim, and the law of the applicable state provided for either a three or a six year limitation period. Patten v. Signator Insurance Agency, Inc., Case No. 05-1148 (4th Cir. March 13, 2006).

These opinions demonstrate two principles of interest: (1) it is very difficult to convince a Court to vacate an arbitration award under the FAA; and (2) courts are becoming increasingly annoyed with what they view as frivolous motions to vacate awards under the FAA. The mere fact that five of the federal Circuit Courts of Appeal have addressed this issue recently illustrates the importance that the Courts attach to this issue.

The Seventh Circuit was correct in stating that the FAA simply does not provide for what is considered to be “judicial review” in a litigation context. Awards simply will not be vacated based upon alternative interpretations of evidence, sufficiency of evidence, or issues of law that are fairly debatable. Even if one can anticipate that an adverse award is likely, it is very difficult to establish a record that will support vacating an award under the FAA. Finally, if your arbitration occurs in the Eleventh Circuit, it is clear that motions to vacate awards and appeals of the denial of motions to vacate awards may be met with the imposition of sanctions unless there is a clearly arguable basis under the FAA to vacate the award.