Were Irma and Harvey Just the Opening Act?
Puerto Rico narrowly escaped a direct hit from Hurricane Irma.
But is Irma’s collateral damage enough to sink the beleaguered U.S. territory?
You’ll recall that Puerto Rico is roughly $70 billion in debt. And by mandate of Congress and former President Obama…
The island nation has been restructuring — under bankruptcy protection — with the oversight of a federal judge
So far, so good…
Puerto Rico’s municipal bonds have been wildly popular among U.S. investors.
The bonds’ tax-free status and attractive yields have proven irresistible, and they’ve helped to aid reconstruction efforts.
But Irma may have just rained on Puerto Rico’s recovery parade.
Power outages and water main destruction could spell doom for Electric Power Authority and Water Authority bonds issued by the island.
And if those bonds default, a domino effect on other Puerto Rican bonds is likely.
With that in mind, welcome to Wall Street Daily’s first ever “Natural Disasters” edition.
Put simply, data say more disasters like Harvey and Irma are coming.
So don’t get caught off guard when the next one hits.
Let’s begin with the most pressing question…
Did Irma just drive the final nail in Puerto Rico’s coffin?
The Post-Hurricane Cash Flood
Frédéric Bastiat’s “broken window fallacy” states that you cannot benefit from damage.
Thus, the glazier’s bill for mending a broken window must come out of other spending — and produces no net benefit to the village.
On this principle, Hurricane Irma should further devastate Puerto Rico’s economy, pushing it still further into destitution.
However, Bastiat does not apply if there’s a sugar daddy around. Here’s what I mean…
For the United States as a whole, Bastiat is correct. Hurricanes cause extra costs — increasing budget deficits and pushing the country closer to long-term insolvency.
For Puerto Rico, however, these catastrophic events can actually spawn huge benefits.
Tens of billions of dollars gush in from Uncle Sam, rebuilding everything better than it was — while employing huge numbers of islanders to do so.
Politically, since Democrats want to provide extra help to Puerto Rico anyway, they will find ways to slip in extra goodies that are not strictly hurricane related, as was done after the Katrina and Sandy storms.
To play any potential upside, First BanCorp (NYSE: FBP), the major Puerto Rican bank, looks like a buy at only 64% of net asset value.
More Pain on the Way…
The hurricane season has not been good to the U.S. so far this year.
In the last three weeks, two Category 4 storms have slammed into the U.S. — racking up billions of dollars in damages.
Hurricane Irma, the second of these major storms, triggered one of the largest evacuations on record in America — a whopping 7 million people.
The financial damages have already topped $200 billion.
Analyst Barrie Cornes at Panmure Gordon notes that the total financial cost of Irma alone could reach $300 billion.
Sadly, the data suggest things are going to get worse from here before they get better…
NOAA, the chief U.S. scientific agency that tracks hurricanes, predicts an “above average” Atlantic storm season in 2017. Their forecast includes 14–19 named storms and two–five major hurricanes.
Whether you believe in man-made climate change or not, the fact is that both atmospheric and ocean temperatures are trending up.
You see, hurricanes are fueled by warm ocean water.
This year, the eastern Atlantic Ocean — where some of the deadliest hurricanes form — is between 0.5 and 1 degrees Celsius hotter than average, according to NOAA.
Oceans are staying warmer for longer because of hotter, longer summers.
To make matters worse, ocean levels are rising, too, as polar ice melts.
So when these hurricanes blow through, the storm surges that coastal communities face are higher — and more devastating than ever.
Bottom line: The damages to both life and property are only going to go up if global temperatures keep rising. And as a result, the financial strain on coastal communities is bound to increase.
Disaster-Proof Your Portfolio
When natural disasters keep striking, the last type of company you want to own are reinsurers.
These firms act as backstops in the case of catastrophic events and bear the biggest burdens.
In layman’s terms, they provide insurance to the insurance companies.
Now, it’s true that reinsurers built up years of reserves, since there have been so few major hurricanes. But with two of the most expensive hurricanes in history happening in such quick succession, their cash buffer is eroding. Quickly.
If another major storm hits, the market’s top reinsurers will go from being battle-ready naval aircraft carriers to rickety cardboard dinghies.
Heck, they already started listing hard as Irma approached. XL Group Ltd. (NYSE: XL) and Everest Re Group Ltd. (NYSE: RE) were two of the biggest single-day decliners in the S&P 500 index.
I’m afraid the odds aren’t in reinsurers’ favor, either.
As Jonathan mentioned above, it might only get worse from here.
Howard Mills, global insurance regulatory leader at Deloitte, points out, “This is really worrying that we’re still very early in the hurricane season.”
If one more major storm hits in the remaining three months of the hurricane season, shares of reinsurers are going to drop significantly. If two major storms hit, a few could be pushed to the brink of insolvency.
So before it’s too late, I recommend you disaster-proof your portfolio by ridding it of any reinsurers like the two mentioned above or Aspen Insurance Holdings Ltd. (NYSE: AHL), RenaissanceRe Holdings Ltd. (NYSE: RNR) and Validus Holdings Ltd. (NYSE: VR).
Ahead of the tape,
Chief Investment Strategist, Wall Street Daily