The Key Benefit: Why uncorrelated returns matter

The most important concept for any investor considering ILS is non-correlation.

In investment management, correlation measures how two assets move in relation to each other.

Stocks and bonds typically exhibit a negative correlation (when one increases, the other usually decreases), which is the rationale behind the traditional 60/40 portfolio.

But, during a major financial crisis (such as that of 2008), many different asset classes can unexpectedly become highly correlated, resulting in a simultaneous decline in value. This is known as systemic risk.

Insurance-Linked Securities are different. The assets contained within an ILS portfolio are associated with the occurrence of natural catastrophes or various insurance-related events

A simple question illustrates the point: Does a 1% change in the Federal Funds interest rate affect the probability of a hurricane making landfall in Florida?

The answer is no. A recession does not increase or decrease the probability of an earthquake. Additionally, a stock market crash does not impact the intensity of the U.S. wildfire season.

This non-correlation means that an allocation to ILS provides true diversification to a traditional investment portfolio. It is a source of return that is independent of the financial, economic, and geopolitical risks that drive the performance of almost every other asset class. Therefore, adding ILS can make a portfolio more resilient by lowering its overall volatility and protects it from systemic market shocks.