5.38% average return for ILS investment funds in 2014

The full-year numbers are now in for the Eurekahedge ILS Advisers Index which show that the average return for insurance-linked securities (ILS), reinsurance linked investment and pure catastrophe bond funds in 2014 was 5.38%, which is below the long-term average.

Reflecting the lower pricing in reinsurance and catastrophe bonds, created by consistent market softening through the last two years, the latest data from the Eurekahedge ILS Advisers Index, which tracks ILS and cat bond fund performance across 34 constituent funds, shows that on average ILS funds returned 5.38% in 2014.

The December performance figure was 0.39%, which is below the average but actually quite good considering the decline in pricing and that cat bond price returns have dropped in recent weeks. The Index performance for December compares to at 0.11% performance for the Swiss Re Cat Bond Total Return Index, but a 0.5% decline for the Price Return Index, which shows that private ILS transactions drove much of December’s index performance.

Over the course of 2014 the different returns achievable by different ILS fund investment strategies was stark. Pure catastrophe bond funds saw lower performance, as cat bond pricing declined to lows. This resulted in a gap between the subgroup of ILS funds that invest in private ILS transactions and collateralized reinsurance outperforming the pure cat bond fund subgroup by 3.15% in 2014.

Stefan Kräuchi, founder of ILS Advisers explained; “Pure cat bond funds as a group were up by 0.26% monthly and 3.70% yearly while the subgroup of funds whose strategies include private ILS increased by 0.49% monthly and 6.85% for the whole year. Private ILS funds outperformed pure cat bond funds by 3.15 percentage points in 2014.”

The Index provides an excellent way to appreciate the possibilities of a blended ILS investment strategy and show that selecting the right level of risk appetite and return potential is key for investors.

For the full-year 2014 the gap between best and worst performing funds is wide. “The difference between the best and the worst performing fund was 5.82 percentage points monthly and 13.85 percentage points yearly,” Kräuchi explained.

That shows the range of returns available from ILS investment strategies now. In fact, December alone provides a great example of the variability of ILS fund returns, and how managerial practices also impact returns on a month by month basis.

In December 25 of the 34 funds tracked by the ILS Advisers Index were positive for the month and in fact the monthly average return could have been worse were it not for one fund’s reserving practices benefiting December.

Kräuchi continued; “The major contributor to the index is the strong return of over 5% from one single fund, resulted from the positive reserve developments on its portfolio.”

Of course that 5% increase in December due to positive reserve developments within a single ILS fund portfolio would otherwise have benefited the Index earlier in the year, had the reserve not been set. This is another good example of the way ILS investment managers protect their investors, by reserving or side-pocketing assets which have the potential to face losses, being able to segregate them from the rest of the fund or release them back when it becomes clear that no loss is faced.

The Index in 2014 has reflected the dynamic which has seen ILS capital get to grips with its lower-cost and efficiencies, resulting in an ability to match reinsurance price declines and in some cases become the cheapest source of risk transfer.

This has naturally had an effect on returns. However the overall returns from the ILS and cat bond market, particularly those achievable from a balanced strategy across the market, remain very attractive to investors. Of course if an investor is willing to take on a little more risk then the returns can be extremely attractive still, as evidenced by the 13.85% gap between best and worst performing ILS fund in 2014.

The Index has been a valuable tool for investors looking to benchmark the asset class. We would expect the returns in 2015 to be roughly aligned with those experienced in 2014, while reinsurance pricing remains low and catastrophe loss events remain scarce.

Eurekahedge ILS Advisers Index, showing average return of ILS and cat bond fund market

You can track the Eurekahedge ILS Advisers Index on Artemis here including the new USD hedged version of the index. It comprises an equally weighted index of 34 constituent ILS funds which tracks their performance and is the first benchmark that allows a comparison between different insurance-linked securities fund managers in the ILS, reinsurance-linked and catastrophe bond investment space.