Amid changing disaster landscape, Bernardi releases risk index

Illinois-based Bernardi Securities has released an Environmental Risk Index that gauges relative environmental risk within municipal bond portfolios. 

Processing Content

The firm’s ERI, released in a May white paper, shows that Midwest states tend to have lower index scores, indicating lower environmental risk and insurance non-renewal rates. The leading states for environmental risk are Florida, Oklahoma, Arizona, California and Hawaii, while Wisconsin, Ohio and Indiana have some of the lowest scores, and Michigan has the lowest, according to the index.  

That suggests Midwest credits may be overlooked due to benchmark dynamics — with the biggest issuers, typically from the coastal states, composing the highest allocation — when perhaps they shouldn’t be, Bernardi Securities Senior Vice President Matt Bernardi said. 

“We have a concentration in the Midwest within our portfolios,” he said. “That’s an intentional concentration, and the results of this paper give us further confidence in that Midwestern concentration.”

The Northfield, Illinois, firm specializes in municipal bond portfolio management, saying it advises on more than $1.9 billion in separate account portfolios.

“Internally we’ve always been very sensitive about environmental risk when we’re looking at a credit,” he added. “But we wanted to develop a more nuanced score for environmental risk… The top line cost of financing these disasters versus underlying inflation, it seems to be outpacing underlying inflation, hence it’s probably outpacing underlying tax revenue growth.” 

The index comes as property insurance coverage levels are declining in some parts of the country and after the FEMA Review Council’s May final report called for significant changes to the Federal Emergency Management Agency.

As the average annual cost of natural disasters grows and the number of billion-dollar weather-related disasters remains high, there is more competition for shrinking federal resources. 

“At the federal level, the amount of debt is growing every day,” Matt Bernardi said, meaning the capacity to cover natural disaster costs for states and localities “is frankly lower.”

The Bernardi Securities ERI relies on FEMA’s National Risk Index and a Senate Budget Committee report on insurance non-renewal rates as its primary data sources, a white paper accompanying the ERI notes.

However, in FEMA’s index, “the wealthier an area might be, the more potential damage there is. (And) the larger the county is, the more potential there is for natural disasters to occur… We think that’s very misleading from a municipal bond credit research standpoint,” Matt Bernardi said. “Bigger, wealthier, more diversified counties have greater resilience and capacity to handle natural disasters. They’re simply more resilient.”

So the firm stripped out the economic value component of FEMA’s index in its own index, focusing instead on the natural disaster probability variable.

The firm noted that its index is not a replacement for analysis of muni credit fundamentals.

“The ERI is something that we’re using internally,” Senior Vice President Tom Bernardi said. “Obviously, we’re looking at underlying financials, and we have our own in-house scoring method for that, and then the ERI is on top of that.”

Bernardi also stressed that its scores are not forward-looking, and its scale is ordinal rather than ratio-based.

“Our scores reflect higher risk on one end of the scale and lower risk on the other; and of course, there are a number of quantitative inputs that feed into that, but ultimately, it’s the relative comparative stance of each of these issuers that we examine,” credit analyst Jeremy Williams said. 

“It’s comparing all of the individual hazards in any given county to another county, and then making a composite and ranking (them),” credit analyst Zach Cronin said.

Matt Bernardi predicted that if the federal debt continues on its current trajectory, disaster relief will become even more constrained, and environmental risk analysis “is going to become more and more of an important aspect of municipal bond credit research.” 

He added, “The recovery coming out of disasters was all but guaranteed, because of FEMA and/or insurance, and so if one, let alone both, of those are weakening — and there are certainly signs that they’re both weakening — then the individual credit research becomes more important.”

The FEMA Review Council was convened by President Trump, who’s made several statements . Its recommendations include staffing cuts; increasing cost thresholds for public assistance; switching from a cost reimbursement to a parametric funding model; adopting risk-based pricing for the National Flood Insurance Program; consolidating existing individual assistance programs and tying payments to a finding of home uninhabitability; and increasing coordination with the private sector and nonprofits. 

The agency has already undergone a transformation during the second Trump administration. Staff numbers fell to 21,000 in March from 26,000 in January 2025, according to Politico, which said six of the 10 FEMA regional offices have no permanent administrator.

“One of the big challenges these days… is that FEMA is a mess,” Illinois Gov. JB Pritzker said at a recent press conference. “They’ve cut back significantly on the support that they give when there are emergencies. They are slow in responding with the dollars that they promise. And there are only so many dollars that a state has for what should be covered by federal emergency management.”

As of March, the Trump administration had approved 23% of disaster relief requests from states with Democratic governors and 89% of requests from states with a Republican governor and two Republican senators, a separate Politico analysis found.

The share of disaster declaration denials was already climbing before Trump began his second term, nearly doubling from 6.8% in 2017 to 12.97% in 2023.

Municipal Market Analytics highlighted the FEMA changes in two recent outlook reports, on May 11 and May 26.

In the former, MMA warned that “postdisaster FEMA aid has long been a key pillar of municipal credit quality,” and suggested “market participants should consider the implications of a municipal market with less and more conditional federal disaster aid, both for individual credit resiliency and for the market’s overall risk profile.”

In the latter, the firm cautioned that “tail risk assumptions embedded in credit assessments and pricing may need to be re-examined,” and said the proposed FEMA changes “weaken a municipal market fiscal and credit stabilizer and create narratives that may make it politically difficult to provide enhanced federal aid.”

Those narratives include the idea that reimbursing states for disaster recovery costs creates a moral hazard and allows state and local governments to game the system, said Lisa Washburn, chief credit officer and managing director at MMA. 

“The narrative in that (FEMA) report was more of a negative framing, that there’s been an underinvestment” in climate adaptation by states, “versus the more positive framing of, we need to incentivize resiliency,” Washburn said.

Some of the proposed reforms raise the question of whether the flow of disaster funding to states will taper off to a slow drip, and what that means for the economic recovery of impacted communities.

“Because the disasters are getting larger and more difficult to recover from, that has a longer-term impact on the community itself and tax revenue generation,” Washburn said. “It should always be the goal that you want to recover as quickly as possible.”

The members of Congress representing those communities will decide how to implement the reforms proposed in the FEMA Review Council’s report, although there are some things that could be done through executive action, Washburn said. 

“I don’t know how draconian right cuts would be, but definitely the current trend is towards less coming from FEMA and more of the share being absorbed by (state and local) governments,” she said.

Matt Bernardi said those dynamics may change the calculation for muni market participants. 

“This highlights the need for active management, as well,” he said. “The indices are significantly concentrated in states like California, New York or Massachusetts. If you don’t live in one of those states, there’s little incentive to own bonds from those states in some ways, and this paper highlights some of the risks there.”