Three US senators opened an inquiry into insurance ratings firm D
emotech and whether its assessments may be exposing Fannie Mae and Freddie Mac — and ultimately taxpayers — to growing ris
ks tied to climate-driven insurer failures.
In a letter sent Tuesday to Fannie Mae Chief Executive Officer Priscilla Almodovar and Freddie Mac interim CEO Michael Hut
chins, the three Democratic lawmakers questioned why the government-ba
cked mortgage giants continue to accept Demotech ratings as sufficient proof of insurer financial strength, despite evidence that i
nsurers carrying those ratings have failed at unusually high rates. In a separate letter, they pressed Demotech on its own finances an
d why, in 2022, it suddenly threatened to downgrade the ratings of up to 27 insurance companies.
Sen. Sheldon Whitehouse. AP Photo/Sergei Grits
“Demotech’s deep involvement in the Florida insurance market — and its re
peated methodological shortcomings — raise profound governance and reliability concerns,” the lawmakers, Senators Sheldon Wh
itehouse, Elizabeth Warren and Ron Wyden, wrote the mortgage managers in
the letter viewed by Bloomberg News. They further urged the companies to
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reassess their insurer counterparty risk controls.
Fannie Mae, Freddie Mac and Demotech were not immediately reachable for comment.
The inquiry comes as climate change intensifies hurricanes, wildfires and other disasters, straining the property insurance market nationwide.
Combined, the two government-backed financial giants purchase more than
half of all US mortgages on the secondary market. The government sets standards for quality of insurance on each of the properties to protect its investment.
Florida, in particular, historically struggled to keep insurers in the market. Demotech, based in Columbus, Ohio, was founded i
n 1985 with the express purpose of rating smaller insurance companies that have trouble meeting the standards to get an A from big ratings companies like AM Best and Standa
rd & Poor’s, which require steady capitalization and geographic diversi
ication, among other things. Demotech gave these smaller firms more credit for buying generous r
einsurance — that is insurance on the insurance — and thus a better shot at an A.
Fannie Mae first accepted Demotech’s “A” rating for mortgage eligibility in 1989, with Freddie Mac following a year later.
Florida quickly began to rely heavily on Demotech-rated insurers. A 2023 study found that more than 60% of Florida insurers h
ad a Demotech rating. But the study, which was conducted by researchers at Columbia Business School, Harvard Busin
ess School and the Federal Reserve Board, also found that nearly 20% of Demotech-rated Florida insurers became insolvent even
while holding an A rating between 2009 and 2022.
The senators warned that continued reliance on Demotech could allow private lenders to offload riskier mortgages onto t
he federally backed enterprises, which could pose systemic risks to the mortgage market.
The trio of lawmakers are seeking detailed disclosures on how many mortg
ages rely solely on Demotech-rated insurers; the geographic concentration of those loans; and whether Frannie and Freddie h
ave contingency plans for widespread insurer failures in hurricane- or wildfire-
exposed regions, they said. They are seeking similarly detailed insight into Demotech’s ratings process.