This year’s hurricane season figures to be a challenging one for the U.S. insurance sector, both from a meteorological and legal perspective, warns Fritch Ratings.

Some of the most prominent hurricane forecasting organizations are predicting an above-average storm season, which may once again yield very disproportionate conclusions for insurers depending on how severe the storm season is, according to Fitch senior director Don Thorpe.

“Primary insurers will incur more losses relative to reinsurers if this hurricane season is one of several small to moderate storms, while reinsurers will likely bear the brunt of financial losses if this season is one of large to very large events,” says Thorpe. “Additionally, with reinsurance pricing peaking last year and primary insurance pricing in high hurricane exposure areas remaining relatively strong, Fitch expects a subtle shift towards relatively more quota share reinsurance in 2007, which may increase the reinsurers’ exposure to multiple storms.”

Tests done through Fitch’s new insurance model also revealed significantly varied exposure to catastrophe losses, as specialty liability underwriters have virtually no catastrophe exposure, while companies that emphasize homeowners’ or coastal property coverage have tremendous capital exposure to extreme tail events.

The insurance industry is also mired in a regulatory storm that is every bit as threatening to its financial strength as its meteorological counterparts, the rating agency adds. “The most contentious claims from Hurricane Katrina have begun to work their way through the court system. Although both sides in the wind versus water debate can claim victories (and defeats), a significant number of so-called slab cases (cases where the entire home and its contents were destroyed) are now being reexamined. This may place some insurers’ 2007 earnings under added pressure if those insurers did not set up adequate reserves for those claims,” it says.

The rating agency says that insurers also appear to be losing the public relations battle over Hurricane Katrina claims settlements and subsequent coastal area price increases, which may also affect them financially. “An insurer’s financial strength is derived from its ability to generate earnings over a sustained period of time, and if insurers are not able to convince regulators of the value of their products, then pricing is unlikely to achieve the levels needed to sustain high financial strength ratings,” says Thorpe.