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Market Volatility Triggers Spike in Liability Insurance for REITs

In the wake of a global financial meltdown and the controversy over who is to blame, liability insurance premiums for corporate directors and officers (D&O) has skyrocketed. In the first half of the year, insurers raised premiums anywhere from 20% to 40% for public real estate investment trusts (REITs). The liability insurance coverage provides protection for wrongful acts while managing a company.

Premium increases for the volatile mortgage REIT sector were even steeper at 80% or more for D&O coverage, according to a newly released report compiled by global giant insurer Marsh. In the second half of the year, however, premiums are expected to moderate somewhat, says Jeffrey Alpaugh, a managing director with Marsh and leader of the New York-based firm’s global real estate practice.

The 2009 Real Estate Industry Risk Benchmark Report is based on actual property, casualty, environmental, financial and professional liability insurance purchases of more than 370 U.S. and Canadian commercial real estate firms renewing their programs in the second quarter of 2009.

When high-profile insurers such as AIG and Hartford Financial Services Group Inc. received credit downgrades and fell into a more defensive position over the past 12 months, other insurers took that as an opportunity to raise prices, despite the fact that relatively few D&O claims have been filed over the same period, explains Jon Sampson, a senior vice president with Marsh in the firm’s Boston office.

One reason such claims have been low is that corporate distress has been widespread, and therefore it’s difficult to single out one firm for mismanagement. “That is why the market hasn’t completely softened,” says Sampson.

In addition, credit downgrades of insurers by the rating agencies have made it more difficult for real estate companies to comply with loan covenants that require insurance companies to be rated “A” or higher.

These downgrades have led some real estate companies to utilize credit wraps, a form of financial guarantee insurance that covers specific borrower debt such as a specific loan or debt issuance. But that option is both limited in availability and potentially costly, Marsh reports.

Meanwhile, the cost of terrorism insurance for real estate companies with total insured values of less than $1 billion averaged 6.2% of property premiums, with a median of 3% through the first half of the year.

Lenders decide which properties they require to carry terrorism insurance. Although these mandates vary widely, coverage is typically only required for properties located in central business districts.

During the first half of 2009, 70% of commercial property owners purchased terrorism insurance coverage, down slightly from 73% in the first half of 2008. Those numbers include coverage that real estate owners purchased under the Terrorism Risk Insurance Act or as stand-alone policies.

Coverage rates for both catastrophic and non-catastrophic property insurance are expected to be more favorable in the third and fourth quarters. That’s a welcome departure from the first half of the year when companies experienced property renewal rate increases of up to 10%. During that same period, properties in hurricane or earthquake zones saw costs rise between 15% and 25%.

Insurance market conditions for the second half of the year also have improved following a benign hurricane season in addition to increased investment income for insurance companies as a result of the rising stock market.

“In some sectors, like manufacturing, companies are buying less insurance as a result of the economy,” says Alpaugh. As demand softens, so will property premiums for commercial real estate.

For a full copy of 2009 Real Estate Industry Benchmark Report visit

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