Despite soft market, 2013 ILS insurance returns second best on record

by Artemis on January 16, 2014

Despite the distinctly soft insurance-linked securities and catastrophe bond market, with prices having declined by as much as 40% on comparable issues in the last year, the insurance return from an ILS portfolio hit the second highest level ever in 2013.

The data showing this perhaps surprising feature of the ILS and cat bond market comes from the latest quarterly ILS market report from ILS consultancy Lane Financial LLC. The firms last report at the end of Q3 2013 showed that the speed of decline in insurance-linked security and catastrophe bond rates accelerated during the year.

Now, with full year 2013 figures available the latest report from Lane Financial shows this unusual fact, that 2013 saw the second highest insurance return from the Lane Financial ILS Indices since the firms records began in 2002.

2013 saw an insurance return of 10.58% for the Lane Financial All Cat index. This is second only to 2009 when an insurance return of 11.65% was recorded. The total return however is not as astounding due to the fact that it is made up of the insurance return and the floating return, floating return being the returns from the interest rate float on the underlying collateral assets. In 2013 the floating return was the lowest ever at 0.45%, giving the All Cat index a total return for the year of 11.07%.

It’s worth pointing out here that this shows why investors are extremely unlikely to leave the ILS and catastrophe bond asset class if interest rates rise. Investors have still achieved strong returns from the insurance component of the assets and the total return has been very attractive even with the lowest floating return on record. So when the floating return picks up again the total return increases with it, so why would you withdraw capital when the other benefits of diversification and low correlation still apply?

The chart below shows the historical insurance returns of Lane Financial’s ILS index ranked best to worst, from left to right. 2013 is second highest, closely followed by 2010.

Historical Insurance Return Profile (Ranked Best to Worst) for the LFC Index (LFIRI) 2002 ‐ Q4, 2013

Historical Insurance Return Profile (Ranked Best to Worst) for the LFC Index (LFIRI) 2002 ‐ Q4, 2013

So investors have still been able to achieve attractive returns from the insurance component of ILS and catastrophe bonds despite the fact that the ILS market has been softening for over one year now. In fact, Lane Financial’s research shows that the ILS market is in its most prolonged soft market period since its records began.

It’s not just in a soft market, over the course of 2013 the ILS market has continued to soften further. The chart below clearly shows the accelerated softening as we moved through the year, with a slight reduction in the pace of softening in the final fourth-quarter of the year.

The softening of the ILS and catastrophe bond market

The softening of the ILS and catastrophe bond market (using all outstanding ILS in the Lane Financial All Cat ILS)

Lane Financial recorded a fourth-quarter return of 1.95% on outstanding catastrophe bonds, 0.72% on outstanding life ILS and 0.75% on others, which combine to provide a total quarterly return of 1.86%. Of this the bulk is insurance return at 1.76% with just 0.1% coming from the floating return.

Investment grade outstanding ILS and catastrophe bonds saw a total return of 0.63% for the fourth-quarter while the sub investment grade universe saw a return of 1.91% in Q4 2013.

So for all the talk of cat bond rates declining it will encourage investors in ILS and cat bonds, as well as potential future investors, to see that the returns available remain very attractive and were among the best years ever in 2013. Of course the lack of catastrophe events threatening the cat bond and ILS market had something to do with this, but it is still impressive that in a softening market the insurance premium returns remain so positive.

You can access a full copy of the Lane Financial report via its website (sign up required).

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