2013 saw structural innovation in ILS, increased investor expertise: Swiss Re

In 2013 the insurance-linked securities market saw its second highest level of issuance on record. Assisting the ILS markets growth is continued structural innovation and an increasingly sophisticated investor base, according to global reinsurance firm Swiss Re.

Reinsurer Swiss Re has published its latest Insurance-Linked Securities Market Update today, featuring a look back at the last year’s issuance and some of the trends which have emerged as the ILS and catastrophe bond issuance market continues to mature.

2013 saw the second highest level of issuance on record , with Swiss Re recording $7.42 billion across 31 transactions (Artemis recorded $7.64 from 36 deals including some private transactions). Swiss Re’s number is roughly $800m below the record issuance set in 2007, when it recorded $8.24 billion of ILS transactions.

However, if you cut the transaction base down to include only natural catastrophe bonds then 2013 ends up being the highest years issuance on record, note Swiss Re. So 2013 saw a few records; the highest number of transactions issued and the highest level of natural catastrophe bond issuance in the markets history.

Both first-half and second-half 2013 issuance outstripped issuance seen in 2012 and both halves of the year came very close to breaking records. The first half of 2013 saw lower risk cat bond transactions issued, with spreads below the 5% to 6% range, while the second half saw sponsors taking greater advantage of the pricing environment to bring higher risk tranches to market, with 12 of 21 tranches pricing with a spread above 6%.

Historical ILS and catastrophe bond issuance by half-year

U.S. hurricane risk continued to dominate the ILS and cat bond issuance market, said Swiss Re, with 65% of new issuance featuring this peril and 31 of 42 tranches having exposure to U.S. wind. However, Swiss Re notes that there was diversification on offer and investors supported transactions featuring non-peak perils such as France and Europe windstorm, Australian cyclone and earthquake risks in Central US, Turkey, Canada, Japan, Australia and the broader US.

Interestingly Swiss Re highlights that seven new entrants to the cat bond market all sponsoring their first deals accounted for almost 20% of the total issuance. These seven sponsors, the Turkish Catastrophe Insurance Pool (TCIP), American Coastal, Ren Re, the Metropolitan Transit Authority (MTA), AXIS, American Modern Insurance and QBE, all took advantage of pricing and terms to secure large layers of multi-year coverage at attractive pricing.

Based on Swiss Re’s numbers, another record was set in 2013 with the average ILS and catastrophe bond deal size hitting $245m, surpassing the $236m average of 2007. Oversubscription due to investor demand helped this, often pushing deal sizes higher as they upsized to accommodate investors and maximise on the coverage offered to the sponsor.

At the end of 2013 Swiss Re sizes the outstanding ILS and catastrophe bond market at $20.2 billion, a record size (Artemis’ numbers, including private deals, brought the market to $20.5 billion at year end). This impressive figure is even more impressive when you consider that it is nearly 20% larger than the previous record for the size of the market set in 2007.

Swiss Re said that the cat bond market has now grown by almost 50% from its post financial crisis low-point set in 2011. According to Swiss Re; “2013 has demonstrated to the market that cat bonds remain a growing and highly sought after product.”

Yearly ILS and catastrophe bond issuance and ILS risk capital outstanding

The ILS and catastrophe bond investor base continued to broaden throughout 2013, with increasing interest from general money managers and more dedicated ILS investors and investment managers building specialist, reinsurance focused teams.

Inflows to specialist ILS and catastrophe reinsurance funds, which were particularly strong at the start of 2013, have also been supplemented by deeper demand from generalist investors. This helped to place further pressure on spreads, leading to the steady decline in pricing throughout the year.

Large institutional investors remain attracted to the asset class for its diversification qualities, as ILS remains a low-correlating asset class within their portfolios. Swiss Re believes that these investors are attracted to ILS for its real and relative value, especially while interest rates remain near historical lows.

As the market seeks to satisfy this increased demand, Swiss Re said that it is witnessing continued structural innovation in transactions and an increasing sophistication within the investor base. Investors have grown their expertise, by building specialist teams dedicated to the asset class, and are now willing to look at, and invest in, more tailored (beyond plain vanilla) ILS and cat bond structures.

The shift towards indemnity triggers has continued, said Swiss Re, as investors learn to increasingly accept indemnity based transactions. This has led to greater levels of customisation and tailoring within the terms and structures of cat bonds, including indemnity coverage of complex commercial portfolios of risk, the inclusion of variable resets and the acceptance of ever riskier tranches of notes.

Swiss Re says that cat bonds, which were once known for covering the top or remote layers of a reinsurance program, have gradually come down the tower to the riskier working layers of reinsurance programs. This is a further sign of both the markets continuing innovation and investors increasing sophistication.

Looking ahead to the rest of 2014, Swiss Re said that as market conditions remain conducive to ILS and cat bond issuance and there are close to $4 billion of bonds due to expire in the first half of the year, it anticipates a strong issuance pipeline over the coming months.

Whether the issuance pipeline will be sufficient to see further growth of the outstanding catastrophe bond and ILS market in the first half of the year is not certain, but Swiss Re said it could potentially lead to continued market growth.

You can download a full copy of the Swiss Re ILS Market Update report from the reinsurers website. The report contains much more on 2013, including insight into secondary ILS market trends, spread compression and innovation in specific transactions.

Don’t forget you can read about every catastrophe bond and ILS transaction from 2013 in the Artemis Deal Directory.