Vita Capital IV Ltd. Series III mortality notes on CreditWatch negative over Japan disaster

by Artemis on March 23, 2011

The Series III notes of Swiss Re’s Vita Capital VI Ltd. mortality insurance-linked security transaction which was issued in October 2010 have been placed on CreditWatch negative by Standard & Poor’s as they have exposure to increased mortality levels in Japan.

We missed this catastrophe bond type transaction off our original list of deals which were at risk of losses due to the Japanese earthquake (it’s now been added) as we believed the level of mortality increase required to trigger it would be too great. However, as the reported loss of life from the disaster rises, S&P must feel that there is a risk that the death toll from the disaster could reach the required level to trigger a default and a loss to the transactions investors.

Vita Capital IV Ltd’s Series III is an insurance-linked securitization which is exposed to increases in mortality in the U.S. and Japan over a three year period. The noteholders are at risk from an increase in age and gender weighted mortality rates which exceed a predefined percentage on a predefined index.

For the disaster in Japan to cause a default and loss the indices would have to increase by at least 7.5% over any two  consecutive-year measurement periods between October 1st, 2010, and September 30th, 2014. At the time of issuance of this deal, Risk Management Solutions who provided risk modelling services estimated that an event in Japan which caused 50,000 deaths and was evenly spread across all age and gender groups would cause a loss notes.

The latest official death toll in Japan stands at around 10,000 with close to 15,000 more people reported as missing. That death toll is still likely to rise significantly as so much uncertainty exists over the fate of many people in coastal towns of northern Japan. How close the toll will get to the 50,000 deaths which would trigger this deal will take some time to be known. Even if the death toll doesn’t reach that figure from this event, with mortality increases over any two consecutive-year measurement periods counting towards the index increase for this deal, the risk of loss over the term of the deal has increased due to this event.

S&P said; “The CreditWatch placement reflects our view of the impact on the probability of default of the series III notes of the increasing number of deaths and the uncertainty regarding the eventual death toll arising from the earthquake in Japan and subsequent tsunami. We expect to resolve the CreditWatch placement once there is more clarity regarding the number of deaths. We will assess the impact on the estimated probability of triggering the series III notes and could downgrade the series III notes if we believe the likelihood has increased beyond the ‘BB+ (sf)’ inflection point on our static insurance-linked securitization default table. We anticipate that if the deaths caused by the earthquake and tsunami are around 20,000, the rating on the series III notes is likely to remain in the ‘BB (sf)’ range.”

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