Everyone involved in the catastrophe bond and insurance-linked securities market is well aware that investor interest in the sector is at an all time high and that the primary market isn’t providing sufficient new capacity to allow all these new, eager investors to access the returns the market can offer. Private catastrophe risk securitization transactions are a trend which we expect to see increase as investment managers seek to take advantage of investor appetite.
The cat bond market received a significant amount of press during 2010 which helped to raise its profile to a new demographic of investors. Interest is being seen from new groups of investors who previously were not involved in the space. Pension funds are just one type of investor who have expressed a growing interest in the returns and opportunities for portfolio diversification that the cat bond and ILS space can offer.
After a great start to the year in 2011, the primary market for catastrophe bond issuance has slowed (due to post-Japan quake market conditions amongst other issues) and market participants are expecting this year to be on a par with 2010 at best for issuance. As we’ve written recently, investment manager Clariden Leu have again closed their flagship cat bond funds to new money due to the lack of new deals available to invest in.
With a significant volume of existing cat bonds maturing over the course of this year, after the events of recent months the amount of outstanding risk capital isn’t expected to grow much during 2011 (a change from predictions at the start of the year). So that means the size of the available investment opportunity is unlikely to increase which is bound to leave some investors disappointed at their inability to access the attractive returns that the cat bond and ILS space have historically shown.
Private catastrophe bond transactions are a trend we’ve been writing about for a while (here’s one article from April on the subject). To date they have mainly been used by investment managers already involved in the ILS space who are seeking to increase their funds available capacity to meet the demand of new investors, such as this example of Clariden Leu offering a ‘cat bond lite’ to their existing investors.
Another example of this trend came to light today as Channel Islands based law firm Bedell Cristin disclosed in a release on their website their involvement in a number of private transactions in which they have been cooperating as advisers with Swiss based ILS investment firm Solidum Partners AG. The arrangement saw a private transformer vehicle domiciled as a protected cell company in Guernsey, Solidum Re, through which catastrophe risks have been transformed into $12.4m of securities to be sold to investors.
Three separate series of notes have been issued through Solidum Re, dubbed Pollux, Dom and most recently Jungfrau. None of the notes are rated, the deals have no external modelling performed on them and no investment bank has been required to structure the transactions (which keeps issuance more straightforward and simple to repeat we’d imagine). The most recent transaction, Jungfrau, “Incorporates reinstatement for 2011 financed by the issue of second loss notes, and also introduced new sponsors to the CAT bond market” according to Bedell Cristin. Interestingly, and demonstrating why investors like this sector right now, the release states that no-loss returns over U.S. Treasury Bills for the three transactions ranged between 7.5% and 29.5% for a twelve month investment.
In the release on their website, Bedell Cristin say about these transactions: “They mark a deepening of the market for smaller, more streamlined indemnity cat bond transactions that are fully tradable in the secondary market”. Bedell Cristin advocate Mark Helyar said “Those in the insurance industry in Guernsey will know that I have long espoused the opportunity for Guernsey to benefit from insurance and reinsurance transformer transactions of this sort given that we have the right cocktail of specialist professional disciplines and a respected regulatory framework operating within the European time zone. It is fantastic for Bedell and for Guernsey to have advised on the development of an effectively new product with our client Solidum Partners, particularly at a time when there is likely to be considerable global demand for investment in reinsurance markets. The firm’s acknowledged international expertise in the specialist use of PCC and ICC structures for investment and insurance purposes has been of particular use in this series of transactions by ring-fencing risk whilst maintaining repeat transaction costs as low as possible for both our client and investors.”
There are certainly many more examples of firms structuring cat bond type structures, sidecars and transformer type vehicles with the sole purpose of creating an investment opportunity. The nature of these investments means we don’t get to hear of them until the deals are long completed and in some cases they are never disclosed, however this is an interesting and growing piece of the cat bond market which could help the market develop in interesting ways. Creation of cat bond security paper for the sole purpose of investment and/or trading could give structurers the opportunity to test new deal structures, new trigger types and structures, mix perils and geography more than in public issuances and assess investor appetite for different cat bond ‘types’. This could result in a positive evolution for the market and a leap forward in innovation, if nothing else it will continue to provide much needed investment opportunities for those seeking to enter the cat bond and insurance-linked securities market.
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