The anticipation of a brisk last two months of the year, with reports that a number of billion dollars worth of new catastrophe bonds may come to market, stimulated secondary ILS trading activity in October despite the primary market remaining quiet.
The expectation that primary market cat bonds would flood the market as the end of the year approached has been enough to see insurance-linked fund managers and insurance-linked securities (ILS) investors begin the process of rebalancing their portfolios in October. There may also have been an element of offloading bonds which had by now accrued their seasonal yield increase.
Trading had been light in September, as the peak of the seasonal returns flowed through to cat bonds which are on risk for U.S. wind and new issuance was low. In October, the seasonal returns dipped slightly and price gains slowed, but there was no primary issuance at all, except a single private deal which went to one investor, to help to push investors to offload any positions.
Despite that activity has been brisk in the secondary cat bond market. Zurich-Switzerland based specialist ILS investment manager Plenum Investments commented on October’s activity; “The anticipation of an active primary market stimulated portfolio rebalancing and reallocation efforts and resulted in an increase of secondary market activity across all peril regions.”
Craig Bonder, Managing Director and Head of ILS Trading at AK Capital, also noted the surge of activity; “Although there was no actual new issuance this month of October, the specter of new issuance most definitely weighed on the market. A belief in a heavy new issue calendar on the horizon was in part the stimulus to a very active month in secondary cat bond markets.”
Bonder continued; “Portfolio rebalancing, seasonality factors of bonds coming off risk, profit taking, and participants being able to deploy substantial cash all led to very high volumes at AK and likely our contemporaries within the market.”
Bonder also noted trading across the marketplace, even in some higher yielding cat bonds, which clearly shows that investors are expecting (perhaps have been told directly to expect) a bumper crop of new cat bond issuance.
“Much of the notional trading volume was in short dated trades due to the sheer size of some of the prints however we also saw strong activity in other perils such as European Wind, Quake, and Multi-peril high yielders,” Bonder said.
Plenum Investments noted that seasonal price increases slowed during the month of October, as we passed the peak of the U.S. wind season; “Seasonal price increases of US hurricane bonds slowed as the risk of hurricane occurrence is diminishing and the expected supply of new transactions is inhibiting further spread tightening.”
Bonder also noted the slow down in seasonality, but overall performance remained attractive; “As for performance it was a good month with interest carry providing the bulk of the overall return as the secondary supply and expectations of strong issuance did and should continue to mute outright dollar price increases.”
ILS and cat bond investors have had three good months this year, with no threats of hurricanes (or any other sizable enough catastrophe events) to promote any price erosion. September saw the best total return for the cat bond market of the year and August and October both added more thanks to price development and continued seasonality. Those three months will have helped catastrophe bond only strategies and portfolios to a high proportion of their overall 2014 returns.
ILS and cat bond fund managers and investors look set to have a busy end of the year as the new deal-flow starts to emerge. With three transactions already coming to market in November, so far totalling at least $950m but likely to grow as most deals will no doubt upsize through Q4.
With an expectation that new issues may continue to come to market right up to the end of the year this could also be a busy Christmas holiday period for investors, as no doubt not all of the new issues will complete this side of the January 1 renewal date and with so much cat bond capacity maturing in over the next few months the new issue pipeline is likely to keep on flowing.