Merna Re Ltd. (Series 2015-1)

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Merna Re Ltd. (Series 2015-1) - At a glance:

  • Issuer / SPV: Merna Re Ltd. (Series 2015-1)
  • Cedent / Sponsor: State Farm
  • Placement / structuring agent/s: Aon Benfield Securities is sole structuring agent and bookrunner
  • Risk modelling / calculation agents etc: RMS
  • Risks / Perils covered: U.S. earthquake (New Madrid region)
  • Size: $300m
  • Trigger type: Indemnity
  • Ratings: ?
  • Date of issue: Mar 2015

Merna Re Ltd. (Series 2015-1) - Full details

State Farm has registered a new special purpose insurer in Bermuda for the purposes of this cat bond issue, stepping away from its more typical numbering of cat bonds with a vehicle simply named Merna Re Ltd.

We understand from sources that the Merna Re 2015-1 catastrophe bond will sit alongside the 2014 issued Merna Re V Ltd., so providing a good comparison on pricing and terms. That deal offered the lowest quake coupon yield ever, but it looks like State Farm wants to take advantage of ILS investor appetite and attractive market pricing to push this even lower in 2015.

For its latest cat bond, State Farm is seeking a three-year source of fully-collateralized reinsurance protection against New Madrid earthquake losses. The deal will see Merna Re Ltd. issuing a single tranche of Series 2015-1 Class A notes, which has a preliminary size of $300m.

The protection afforded by the Merna Re 2015-1 cat bond will be on a per occurrence basis and the cat bond features an indemnity trigger. Coverage is for the same region as its 2014 cat bond we understand. The cat bond will cover losses from earthquakes (including fire following) suffered in Alabama, Arkansas, Illinois, Indiana, Kentucky, Louisiana, Michigan, Mississippi, Missouri, Ohio, Tennessee and Wisconsin, which are the U.S. states situated around the New Madrid earthquake fault.

We understand that for launch the Merna Re 2015-1 cat bond will have the same risk profile as the Merna Re V deal from 2014, with an attachment probability of 0.56%, an exhaustion probability of 0.32% and an expected loss of 0.41%. That puts the attachment point at $450m of losses to State Farm, covering a layer up to $1.45 billion.

However, the 2015 Merna Re cat bond features a flexible reset which will allow State Farm to adjust the coverage if it desires up to an expected loss of 0.56%. That flexibility will allow the risk level to be increased in the cat bond which would trigger a higher coupon for investors, as the coupon would be adjusted in line with any increase in expected loss.

We’re told that the single tranche of $300m Class A notes to be issued by Merna Re in this 2015-1 cat bond are being marketed to investors with price guidance of 1.75% to 2%.

The Merna Re V cat bond, which covers the same risks on the same terms and at the same attachment point, priced in 2014 at the bottom of a 2% to 2.5% initial range. So State Farm is looking to secure a discount in 2015 with lower pricing if possible, but the range suggests it would be okay with achieving the same pricing as last year.

When looking at the potential multiple of expected loss to coupon however the deal looks to provide reasonable value. With so many cat bonds pricing at levels that indicate multiples of 2 to 2.5 times expected losses, the Merna Re 2015-1 cat bond could result in a multiple of 4.3 times even at the bottom end of that price guidance range.

New Madrid quakes are considered very remote risks and as a result the risk model results indicate low pricing for a low-frequency, although potentially high severity, catastrophe event. As a result New Madrid earthquake risk can be priced much lower than other peak earthquake zones around the world.

However this is a very remote risk catastrophe bond, with the attachment probability of 0.56% which naturally also drives the lower pricing expectation.

Update 1:

The $300m tranche of notes now looks set to price at the top end of the initial coupon guidance, at 2%. Perhaps another reflection of where investors pricing floor may be for peak catastrophe risks.

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