Insurance-linked securities (ILS) investor mix changes, 2013 to 2014

The mix of investors accessing returns from catastrophe reinsurance business and the insurance-linked securities asset class, through investment allocations to catastrophe bonds, has changed in the past year, according to Aon Benfield’s latest data.

It’s always useful to see the investor mix of the ILS market and how that changes over time. Aon Benfield provided some useful charts in its latest annual ILS market report which show different categories of investors and how their allocation to the sector, and the resulting investor mix, has changed.

Some publications have jumped on this data as evidence of an institutional investor pull-back from ILS, but looking at the what Aon provides this is not so clear at all and these conclusions may be lacking in fact.

The ILS market mix of investors, 2013 to 2014 - Source: Aon Benfield Securities (Note: Aon Benfield Securities’ analysis of investor category and geographic attributes includes only those transactions which the firm participated)

As you can see from the charts above, 2014 has seen the institutional investor bracket shrink by 9% on Aon Benfield Securities reckoning. However, it’s important to note the difference in the size of the market from year to year, with the ILS market and alternative reinsurance capital having grown by 18% in the first-half of this year, from $50 billion to $59 billion and the catastrophe bond market at a similar rate.

At the same time as this rapid growth there has been an acceleration of ILS capital moving from directly investing in the space to investing via specialist ILS asset managers and their investment funds. The reason for this is the increasingly complex nature of ILS, with more indemnity covers, collateralized reinsurance and the inclusion of more unmodelled risks even in cat bonds, resulting in a general need for the kind of specialist skills that dedicated ILS managers and reinsurance firms can provide.

Notice also the increase in reinsurer sourced capital in the ILS space, which may be explained by the increasing number of reinsurer operated ILS units and funds. Many of these invest in the catastrophe bond space as well and many of these units have investor clients which are also institutional in nature.

So we feel it’s very difficult from this data to discuss a pull-back by institutional investors in the ILS market. ILS has become a more complex asset class over the last twelve months, with increasingly technical demands on investors and investment managers as they seek out the best pricing from participating in reinsurance business on a collateralized basis, be that through securitised cat bonds or other mechanisms.

Some investors have pulled back from pure exposure to catastrophe bonds, that cannot be doubted. With yields having declined over the last year or so, for example the average coupon of 2014 year cat bonds is just 4.47% according to Artemis data, some investors who entered the sector a number of years ago may have reduced or completely sold their allocations to cat bonds as the returns are no longer as attractive to them.

Of course, other investors have entered the sector this year, recognising that the low returns of 2014 year cat bonds are also to do with the low risk levels. Note the gradual decline in average expected loss in our chart as well, which suggests that while yields are down the risk being assumed is a good deal lower as well.

It is also interesting to see from the charts above that hedge funds increased their participation in ILS in the last year, an interesting phenomena given the reduction in yields. However, this is likely explained by the increased profile that ILS and cat bonds gained over the last two years, helping to drive some hedge fund managers to tap the asset class as part of a fixed income component of a portfolio or as an alternative bond class.

It would be really interesting to see how these charts of the investor mix in catastrophe bonds would compare to the investor mix in the entire ILS asset class, so including sidecars, collateralized funds and vehicles, private ILS and other structures. It’s likely that the ILS managers would grow their percentage significantly, especially if you consider that between them they command around $60 billion+ of insurance-linked assets.

ILS & catastrophe bond investors by country or region - Source: Aon Benfield Securities (Note: Aon Benfield Securities’ analysis of investor category and geographic attributes includes only those transactions which the firm participated)

Finally it is useful to also look at the investor mix by country or region of origin, which Aon Benfield Securities kindly also supplies in its report. As you can see, the main flow of money has been out of Bermuda and into other locations. A key reason for this is the Bermuda ILS funds access to reinsurance risks and move into collateralized reinsurance provision, with cat bonds seeing greater uptake among funds with higher liquidity requirements, such as UCITS or mutual funds.

It’s also encouraging to see the ‘other’ bracket grow, as this signifies capital inflows to the space from regions such as Asia where the development and understanding of the ILS space is perhaps a year or two behind the core established markets. It will be interesting to see how this mix changes as other regions investors increasingly gain an appreciation for the ILS and catastrophe bond asset class.

Artemis’ Q3 2014 Catastrophe Bond & ILS Market Report – A lazy summer for ILS

We’ve now published our Q3 2014 catastrophe bond & ILS market report.

This report reviews the catastrophe bond and insurance-linked securities (ILS) market at the end of the third-quarter of 2014, looking at the new risk capital issued and the composition of the cat bond & ILS transactions completed during Q3 2014.

Download your copy here.