Secondary market cat bond returns rise in September, but trading light

The month of September saw lighter secondary market trading for positions in catastrophe bonds and insurance-linked securities (ILS), but stronger returns were again seen as outstanding cat bond and ILS marks continued to rise due to seasonality.

September will again have resulted in much improved returns for catastrophe bond investors and ILS funds, as strong seasonal price increases helped to drive the return of the outstanding market higher once more. After a good August, the best month of the year for many cat bond and ILS investors and funds, September may be even better for market participants.

The secondary cat bond and ILS market often sees slower trading levels in September as it typically sees slow primary activity, so reducing the need for ILS investors and managers to balance portfolios to accommodate new issues. This year was no different, with just one transaction, the $250m Golden State Re II Ltd. (Series 2014-1), completing during the month.

Also slowing the market down in September can be the occurrence of the regular Monte Carlo Reinsurance Rendez-vous event, which sees a significant proportion of the market begin to discuss end of year deals, meaning that the focus is often off the secondary market for a time.

Craig Bonder, Managing Director and Head of ILS Trading at AK Capital, also witnessed this slow down, saying; “After a busier than usual August, September was on the slower side for secondary trading. The mid-month Monte Carlo Reinsurance Rendez-vous and the limited new issuance (only one new large public issuance of $250mm of Golden State II) likely contributed to this slowdown.”

In September hurricane Odile struck Mexico and looks likely to trigger the MultiCat Mexico 2012 catastrophe bond. Odile also threatened another cat bond, Blue Danube II, although it is almost certainly not going to be troubled by the storm. Despite what looks like a cat bond loss event, the secondary market did not respond with activity, according to Bonder.

“Frankly even the big event of the month, Hurricane Odile in the Pacific couldn’t even trigger much trading. Unlike other events where we have seen pre and post live trading this event seemed to almost sneak up on the market late Sunday night limiting any pre storm trading. And by the time trading commenced on Monday morning the market had already priced in strong expectations that Multicat Mexico C would be triggered and we saw bid ask demand in the 50 and 60 dollar price range respectively with limited to no trading,” Bonder explained.

There is a chance that activity around MultiCat Mexico 2012 could pick up once the cat bond’s final fate is known. Bonder continued; “Perhaps upon confirmation of the event some more trading will break, but for now trading has been very muted in the name.”

Despite a threat to the market which looks set to cause some cat bond investors to face a small loss, $50m across all who invested in the MultiCat bond, September saw very strong performance on secondary ILS marks.

“Despite this fifty point drop on a $100mm issuance the market overall had a very strong total return month with prices higher across perils in particular US wind due to demand and seasonality factors,” Bonder said.

AK Capital reported a market total return, based on the trading desk view of secondary catastrophe bond and ILS pricing, of 0.91% for August which was the highest recorded this year. September has seen an even stronger months performance of 1.35% which is actually the highest single monthly return recorded by AK Capital in one year.

Meanwhile Swiss based specialist ILS investment manager Plenum Investments also noticed the slower trading environment in September, saying in its latest update; “Secondary market trading was modest during the month due to the lack of primary market activity. Also, the unusually quiet Atlantic hurricane season suppressed any opportunistic trading possibilities of US hurricane bonds.”

Interestingly though Plenum Investments noted some trading breaking out around September’s typhoon Phanfone which impacted Japan, home to a number of Japan typhoon catastrophe bonds which could have been exposed to the storm.

“We saw some modest secondary market trading occurring towards the end of the month, around the occurrence of typhoon Phanfone in Japan,” explained the ILS manager.

Seasonality was once again evident in September, although Plenum Investments notes that seasonal price movements have not been as strong as in previous years.

“In terms of price movements, we saw the usual seasonal price increases of US hurricane bonds, though not as strong as in previous years due to lower demand for those bonds. The other risk classes were about flat, except for Japan typhoon, with a price increase of approx. 1%,” explained the Plenum update.

Performance for September was strong, according to Plenum Investment’s update which is in agreement with Bonder’s results for the month. However, looking forward this performance may slow as it has been largely driven by seasonal spread tightening on hurricane exposed cat bonds.

As we now move towards the end of the U.S. hurricane season, this spread tightening will be expected to slow as the risk of hurricanes lessens. That means as we move towards the end of the year, the secondary cat bond and ILS market may once again be driven by the two factors of primary issuance driven portfolio rebalancing along with capital inflows and the need to put them to work. This could once again drive up prices despite seasonal effects lessening, especially if primary issuance does not keep up with the expected demand from new capital.