Massachusetts Bay Transportation Authority looks to cat bonds

The Massachusetts Bay Transportation Authority, the authority that looks after Boston’s mass transit systems, may look to the catastrophe bond market as a potential solution to hedge the risks of another winter like the one it has just experienced.

Boston area faced record levels of snowfall through the 2014-2015 winter months, with a record 110 inches of snow in a winter that effectively shut down much of the Massachusetts Bay Transportation Authority’s (MBTA) operations for long periods.

According to an article by Felipe Ossa in Structured Finance News the MBTA had looked at catastrophe bonds as a potential way to transfer risks of weather and catastrophe impacts in the past, but had discounted them. Now, after the impact of this winter, the Boston-area transit authority is looking to cat bonds once again.

Jonathan Davis, CFO at the MBTA, told Ossa; “In light of last winter, we may take another look at cat bonds.”

Davis told Ossa that he had looked at issuing catastrophe bonds before, but had not pursued issuance at the time. The impact of this winter seasons record snowfall, alongside the much improved pricing of cat bonds and other insurance-linked securities (ILS), may be the triggers that makes accessing the capital markets for the MBTA’s insurance needs more palatable this time around.

The MBTA has already sustained at least $35m of costs from the 2014/15 winter snowfall, according to Davis, but that number is no doubt an underestimation of the real cost to Boston and Massachusetts authorities.

When the transit system is out of service the impact is far wider than just the immediate financial cost of recovery, clear up, damage repairs suffered by the MBTA itself. The knock on effects for the region and local government authorities will be far larger, so this should be kept in mind when evaluating the use of any catastrophe bonds versus insurance.

Right now the MBTA benefits from property insurance coverage, which once exhausted means it has to turn to FEMA for any additional emergency funding.  But the cost comparison between insurance and any other risk transfer tool is, as always, the main concern.

“We’re going to have to weigh the cost-benefit. What kind of events does [a potential cat bond] cover? What kind of losses does it cover?” Davis commented.

The New York Metropolitan Transportation Authority (MTA) successfully became the first such local transit authority to use the catastrophe bond market back in 2013 with MetroCat Re Ltd. (Series 2013-1). MetroCat Re covered storm surge on a parametric basis, a risk which became evident in the wake of hurricane Sandy.

The MBTA wants to protect itself against winter storm impacts and high snowfall specifically, but it is also exposed to ex-tropical storms, as well as Nor’easters. So perhaps the MBTA would benefit from a multi-peril bond, covering it for named storm (so anything that had been named by the National Hurricane Center), winter storm (which could be designated by an independent third-party like PCS), plus severe Nor’easters.

Given the MBTA would be looking for insurance, rather than reinsurance, and would want protection that responds to severe weather conditions rather than just losses, so covering some of the knock-on effects of events that hit other state agencies, perhaps a parametric structure with catastrophe designation would suffice.

Combining a third-party designation for an event which could qualify, such as PCS for a winter storm, and then using a parametric trigger to signal attachment of the notes (perhaps on snowfall depth), could be an interesting solution. PCS and snowfall, the NHC and named storm, and then perhaps just minimum central pressure for Nor’easter, could provide an interesting parametric solution that covered three risks the MBTA is exposed to.

Whether it would be possible to price up such a catastrophe bond at a level that was competitive with insurance for the MBTA is unclear. However the cat bond, given the use of parametric triggers, could be designed to cover not just the direct property losses of the MBTA but also allow it to recover lost revenues, knock on impacts to other government areas and supply chain type effects.

But that’s just our thoughts on the investigative conversations that the MBTA should be having with a broker or structuring company, to see what its options for tapping the capital markets with a cat bond could be. It will be interesting to see whether the authority takes its investigations of ILS any further.