Combine Re Ltd. (Series 2012-1)

This is a novel transaction and a first for the catastrophe bond market. Combine Re Ltd. will issue a cat bond which will provide Swiss Re America with retrocessional protection for two reinsurance deals they have with two clients. It’s the first time multiple reinsureds have been combined into a single cat bond deal.

Cover will be afforded on an annual aggregate basis and the transaction uses an indemnity trigger based on the ultimate net loss of the two reinsureds. The two reinsureds are Country Mutual Insurance Company and the North Carolina Farm Bureau’s mutual insurance arm.

Covered perils are U.S. hurricane, U.S. earthquake, U.S. severe thunderstorm and U.S. winter storm. Cover is to be split 50/50 for the reinsureds in that it is designed to provide $100m of cover to each of them. The North Carolina Farm Bureau is only at risk (and therefore covered) in North Carolina, where as Country Mutual is said to be receiving cover for all peril exposed U.S. States except for Florida and California. A full breakdown of the covered area is at the bottom.

Combine Re Ltd. will protect Swiss Re America and the two reinsureds for 2.75 years, with three risk periods, and is due to mature at the end of 2014.

The deal has three tranches:
Clas A – $100m
Class B – $50m
Class C – $50m

Moody’s have given the $100m Class A Series 2012-1 tranche of notes that are being issued by Combine Re have achieved a provisional rating of ‘Baa1′ which is considered an investment grade rating. The $50m Class B tranche has a provisional rating of ‘Ba3′.

The $100m Class A notes, which have received the investment grade rating, have a one year expected loss of 0.01%, an attachment probability of 0.04% and an exhaustion probability of 0.00%. These notes will pay a coupon of 4.5% above Treasuries.

The $50m Class B notes, have a one year expected loss of 0.54%, an attachment probability of 0.80% and an exhaustion probability of 0.34%. These notes pay a coupon of 10% above TMMF.

The $50m Class C notes, have a one year expected loss of 1.91%, an attachment probability of 3.14% and an exhaustion probability of 0.80%. These notes are much more risky and pay a coupon of 17.75%.

Proceeds from the sale of the notes will be deposited in equal amounts in two separate collateral trust accounts and the proceeds invested in Treasuries or other highly rates assets.

Covered area and perils:

The covered area breakdown is quite complex for this deal given the two reinsureds and the fact that one is NC only.

Country Mutual Hurricane: AL, AR, CT, DE, GA, HI, IL, IN, KY, LA, MA, MD, ME, MO, MS, NH, NJ, NY, OH, OK, PA, RI, SC, TN, TX, VA, VT, WV, and D.C.

Country Mutual Earthquake: The 50 U.S. States and D.C., except CA, FL and NC (Fire Following excluded in AK and HI)

Country Mutual Severe Thunderstorm: The 48 contiguous U.S. states and D.C., except CA, FL and NC
COUNTRY Mutual Winter Storm Covered Area: The 48 contiguous U.S. states and D.C., except CA, FL and NC

NCFB – all perils: North Carolina

Update – 14th August 2012:

Rating agency Moody’s reported that the Class B tranche of notes were downgraded due to qualifying losses from a number of severe thunderstorm events.

Based on an estimated loss report, Country Mutual Insurance estimates that they will suffer an aggregate ultimate net loss from three catastrophe events, PCS No. 74, PCS No. 77 and PCS No. 83, totalling $110.3m. These three events correspond to severe thunderstorms that occurred on 28th-29th April, 6th-7th June and 28th June-7th July, respectively.

The losses estimated are not sufficient to cause any loss to the Class B Combine Re notes but they will reduce the attachment point significantly, thus raising the risk of attachment for the transaction in future during the first risk period. The amount of additional losses now required to reach the attachment level has been reduced to $189.7m from its initial level of $300m for this tranche of notes. Moody’s notes that this does not affect the attachment level for North Carolina Farm Bureau losses.

Moody’s have downgraded the Class B notes from ‘Ba3’ to ‘B1’ as a result of the estimated loss report.

It has become clear that the unrated tranche of Class C notes will not be exposed to any loss as the underlying reinsurance cover for Country Mutual Insurance is for excess of $300m of losses.

Update – 11th September 2012:

According to rating agency Moody’s, losses from Isaac have qualified under the terms of the Combine Re Ltd. (Series 2012-1) cat bond transaction. While these losses are insufficient to cause direct principal losses, they will further erode the transactions protective reinsurance retention layer thus reducing its attachment point and making future losses of principal to investors more probable.

Moody’s says that hurricane Isaac, which is estimated to have caused an insured loss of between $500m and $2 billion, has caused credit negative losses for investors in the Combine Re cat bond. Moody’s said that Combine Re bondholders will not sustain principal losses owing to this event, but Isaac will consume some more of the protective subordination layer of the deal, leaving investors more vulnerable to losses from future qualifying events, which is credit negative.

Moody’s notes that this leaves Combine Re investors more vulnerable, saying that the first loss layer which sits below the rated tranches of notes will absorb the potential ultimate net losses for this event. This, said Moody’s, leaves the cat bond investors more vulnerable to future losses due to an effective lowering of the attachment point. Moody’s explained; “This vulnerability arises from the fact that the rated tranches in this transaction incur losses to the extent the attachment point is less than the aggregate losses on all qualifying events in a calendar year, rather the loss on each individual event.”

The landfall event of hurricane Isaac as a Category 1 hurricane on the Louisiana coastline qualified it as a covered event under Country Mutual’s underlying book of insurance business, said Moody’s.

Moody’s have not discussed how much the ultimate net loss from hurricane Isaac will be to Country Mutual and so we do not at this time know how much further the attachment point has been reduced.