As we reported on Monday, the latest catastrophe bond to come to market is a parametric transaction called Bosphorus 1 Re Ltd. which is being marketed on behalf of the Turkish Catastrophe Insurance Pool (TCIP). The Bosphorus Re cat bond brings investors an opportunity to diversify their portfolios in the form of Turkish earthquake risk. Also the deal uses a parametric trigger which is another rarity in the market and we’re pleased to be able to bring you more details on this.
Bringing a rare source of true diversification to the catastrophe bond market, Bosphorus 1 Re is sure to be in demand with investors as long as they buy into the parametric trigger and risk modelling that underlies the transaction so the details here are crucial. Parametric cat bonds are few and far between and tend to only be on diversifying deals, such as Japanese peril cat bonds like Kibou Ltd., the Multicat Mexico deals and now this Turkish quake cat bond.
Through Bosphorus 1 Re Ltd.’s sale of catastrophe bond notes to investors, the Turkish Catastrophe Insurance Pool (TCIP) is seeking a multi-year source of fully-collateralized reinsurance protection for certain Turkish earthquakes which meet the defined parameters in the trigger on a per-occurrence basis.
Bosphorus 1 Re Ltd. is a Bermuda domiciled special purpose insurer, registered on the island on the 11th January 2013. The single tranche of Series 2013-1 Class A notes it is seeking to issue has a preliminary size of $100m, although if the deal is attractive to investors and the TCIP has a desire to grow the cover it provides that could well increase before it completes.
The notes will provide reinsurance cover for earthquakes affecting the Istanbul region of Turkey, so coverage is limited to the region of the country with the highest insurance density understandably. Earthquake penetration is relatively low across much of Turkey so it makes absolute sense for the TCIP to seek to cover its greatest exposure via a cat bond.
Risk Management Solutions (RMS) are the risk modeller for the transaction and it will use RMS’s Europe Earthquake Model for Turkey, which rating agency Standard & Poor’s note is the first time it has rated a transaction using this RMS model. The reporting agency for the transaction, who will provide actual earthquake measurement data to be input into the RMS model, is Bogazici University’s Kandilli Observatory and Earthquake Research Institute (KOERI).
The parametric loss trigger used by the Bosphorus 1 Re cat bond is based on data reported by KOERI, or a back-up agency. For an event to qualify as covered under the terms of the cat bond it must be an earthquake with a date of loss during the cat bond risk period and it must result in a spectral acceleration greater than 0.1g for at least 10% of the defined calculation locations, as confirmed by the calculation agent.
So the reporting agency KOERI will give the earthquake measurement data to the calculation agent RMS who will then calculate whether the supplied ground motion data has resulted in spectral acceleration above the specified level in enough of the pre-defined calculation locations. If the data is not available after an event, or does not meet data criteria, it will source alternative data from sources such as the USGS ShakeMap.
From this work RMS will be able to calculate an event index value using a mathematical formula. If the resulting event index value is above the attachment level then a payment will be due to TCIP, how much that payment would be will depend on another calculation of the event index value versus the attachment and exhaustion levels.
According to RMS’ risk analysis there have been two historical events which it believes could have reached the index attachment point, one in 1509 and another in 1766, according to S&P. However, S&P notes that due to the uncertainty in historical earthquake data the events actual intensity is hard to confirm from the documentation available at the time.
While the cat bond does focus on the capital of Turkey Istanbul for its coverage area, it is not solely focused on Istanbul itself. We understand that the calculation locations the deal will use are spread around the Istanbul area, including some coastal regions, so a large enough quake outside Istanbul has a remote chance of triggering the parametric factors as well if 10% of the calculation locations are shaken sufficiently.
The probability of attachment for the notes is 1.10%, the probability of exhaustion is 0.91% and the expected loss is 1.01%. On a cumulative basis the probability of attachment for year 1 of the deal is 1.10%, for year 2 2.18% and for year 3 it is 3.25%. We understand from our sources that the initial index attachment level is 2,156 and the initial index exhaustion level is 2,412.
The collateral from the sale of the notes will be deposited into a collateral account and then transferred to one or more highly rated U.S. Treasury money-market funds managed by MEAG MUNICH ERGO Kapitalanlagegesellschaft mbH. S&P note that it’s expected that the collateral will initially be invested in the MEAG Bosphorus 1/I fund, so it would appear that Munich Re’s investment subsidiary is establishing a fund specifically for this deal as it has for many of its own cat bond deals.
The Bosphorus Re cat bond also features an interesting way to increase confidence in TCIP’s ability to meet premium payment obligations. TCIP is a non-profit catastrophe insurer formed in conjunction with the World Bank, the Turkish government, and the Turkish insurance sector in 2000. TCIP will pre-pay 190 days of premium payments into a separate deposit account to ensure scheduled premium payments can be made even if the transaction was stopped before the end of the term if TCIP failed to pay its reinsurance premium.
Another useful feature in this cat bond is the ability for new calculation locations to be added during one of the annual resets. This could allow TCIP to broaden the geographic region that the transaction covers by including more calculation locations further outside Istanbul, a particularly useful feature in a country such as Turkey where development levels differ depending on location.
As we said in our article on Monday, the transaction is being marketed with an expected coupon range of 2.75% to 3.235% above the collateral investments yield.
Parties involved in arranging the deal and bringing this cat bond to market include Munich Re who are lead structurer, GC Securities who are co-structurer and bookrunner and The Bank of New York Mellon who are indenture trustee, custodian, and collateral account provider.
Standard & Poor’s have assigned the single tranche of notes being issued by Bosphorus 1 Re Ltd. a preliminary rating of ‘BB+’.