As investors in insurance-linked securities (ILS) and catastrophe bonds become increasingly willing to assume more risk, in exchange for a higher yielding investment opportunity in reinsurance risk, this presents “an interesting value proposition to sponsors” according to GC Securities.
The latest catastrophe bond market report from GC Securities, the investment banking and capital markets structuring unit of reinsurance broker Guy Carpenter, looks at the trend towards higher-yielding catastrophe bonds having a lower multiple, as investors become increasingly willing to assume more risk.
However, GC Securities notes that this is not at any cost, saying that ILS and cat bond investors are particularly conscious of the quality of the risks they invest in, especially with returns so compressed in ILS and reinsurance.
Cory Anger, Global Head of ILS Structuring at GC Securities, commented; “In today’s compressed rate environment, where the margin for error is low, investors will likely look towards higher quality risks. Overall, we view these patterns as long-term net positives for the stability and reliability of the 144A and private cat bond marketplaces.”
The report notes that the fourth-quarter of 2015 experienced a mixture of pricing dynamics, “with bonds trading in different directions based on the risk level, peril exposure and relative market size.”
Rate compression continued to be seen, GC Securities explains, alongside which investors and sponsors have increasingly shifted their targets towards higher risk, higher return investments and issuances of catastrophe bonds.
“The willingness and interest of the 144A catastrophe bond investor base to add risk in exchange for more yield is worth noting, as it presents an interesting value proposition to sponsors,” GC Securities continues.
There is a clear opportunity for sponsors to bring higher risk cat bonds to market right now, with investors keen to boost their returns and willing to accept a lower multiple of the transactions expected loss.
After some months where the cat bond market seemed increasingly focused on lower returning issues, in recent months there have been a number of higher-yield cat bonds which the investor base has readily snapped up.
The most recent example of which was XL’s just completed Galileo Re 2016-1 cat bond, which saw pricing settle at the low-end of reduced guidance on all tranches. Without a doubt the quality of a sponsor like XL (and Catlin) helps to enable investors to reduce their return multiples on deals such as this, but the higher than average coupons available also helped to stimulate investor demand.
The GC Securities fourth-quarter and full-year 2015 cat bond market report notes that issuance levels slowed at the end of 2015, resulting in an underwhelming Q4. However, by GC Securities reckoning, issuance levels for the full-year were only slightly below 2014, demonstrating a continued appetite for ILS and cat bonds, both among sponsors as a source of reinsurance and risk transfer as well as among the capital markets investor-base.
In fact the slow-down in Q4 resulted in the second biggest dip in cat bond issuance since 2005, according to GC Securities, although the firm still recorded five sponsors bringing $1.425 billion of new 144A P&C catastrophe bonds to market.
“Overall, 2015 proved to be a strong issuance year for the cat bond market,”Anger said, adding that “The relatively low levels of activity we saw at year-end may be due to the fact that sponsors, who might ordinarily issue in the fourth quarter, had the flexibility to delay issuance to Q1 2016 in an effort to either obtain better execution, or to avoid transaction crowding.”
In fact GC Securities says it sees any lull such as this as a sensible and mature approach to the market, in some ways helping sponsors to decouple themselves from the traditional reinsurance renewal cycle and get their transactions to the investor market at a time when ILS managers in particular are less busy.
Anger explained; “We view this shift in sponsors’ willingness to prioritize execution over specific renewal dates as a further sign of the maturity of the insurance-linked securities space.”
The report continues to explain that ILS, like the broader capital markets, is increasingly perceived as having capital available throughout the calendar year. This is a positive for sponsors, enabling them to be more targeted, or strategic, in buying cat bond or ILS protection, as they can bring a deal to the investor base at any time of the year.
For 2016 GC Securities expect that pricing will remain largely flat to slightly down in the 144A catastrophe bond market, but with still attractive levels of issuance.
“Looking forward to 2016, absent of a major market disruption, we expect that risk spreads in the 144A P&C and private cat bond market will remain flat to slightly down. Especially as new sponsors continue to incorporate alternative capital into their strategies, we expect issuance to be similar to the last several years with further growth in the private cat bond market,” Anger forecast.
It’s encouraging to hear that investors are becoming increasingly choosy about the risks they allocate capital to, particularly for the higher-yielding issues where multiples get squeezed. It is evident over the last few years of issuance that new sponsors, less sophisticated sponsors, or smaller sponsors, often pay a coupon premium to encourage ILS investors to back their risks.
This is the same in the traditional reinsurance market, where longstanding relationships, the quality of a cedents portfolio and underwriting practices are key. In ILS and catastrophe bonds the same dynamic is emerging, which should help to ensure the quality remains high, when the yield multiple reduces.
Artemis’ Q4 2015 Catastrophe Bond & ILS Market Report – Outright market growth continues
We’ve now published our Q4 2015 catastrophe bond & ILS market report.
This report reviews the catastrophe bond and insurance-linked securities (ILS) market at the end of the fourth-quarter of 2015, looking at the $1.525 billion of new risk capital issued and the composition of the cat bond & ILS transactions completed during Q4 2015. The report also includes a review of the full year 2015 issuance and commentary from co-editor GC Securities.