Swiss Re Insurance-Linked Fund Management

Original Risk: A Society for Change Agents

Cat bond attraction as investment & risk transfer to persist, perhaps intensify


Catastrophe bonds are likely to remain a very attractive option for alternative investing and also as a risk transfer tool, perhaps becoming more so in the wake of the last two years of losses and the resulting market shake-out.

Cat bond attractionCatastrophe bonds have not gone away, despite becoming the smaller component of the overall ILS and alternative reinsurance capital market when compared to collateralized forms of reinsurance and retrocession.

But their attractiveness has never diminished either, as an investable asset or as a risk transfer tool. In fact it persists and we believe could even intensify.

Cat bonds remain one of the best diversifying assets for many institutional investors, offering a truly diversifying risk-based alternative to other securitized bonds.

They continue to exhibit little to no correlation to broader financial market returns, which makes them an incredibly valuable tool in portfolio construction terms.

Delivering average coupon returns in a range from 3% to 6%, but sometimes as high as 15% or higher, cat bonds offer returns that can match the majority of other bond assets.

Of course with the majority of catastrophe bonds being fully securitized Rule 144a investment structures they also offer secondary liquidity, something that has proved invaluable to investors on a number of occasions when the cat bond market has demonstrated its liquidity in the face of broader, or localised, market pressures.

Increasingly catastrophe bonds are also being seen as an investment with ESG (environmental, social, governmental) qualities as well, meaning a number of institutional pension fund investors now class cat bonds alongside other responsible investment classes.

For those seeking risk transfer, be they insurance or reinsurance firms, sovereign governments, corporations, or other sponsoring entities, catastrophe bonds continue to allow risks to be fully transferred to the largest and most liquid source of capacity available, the capital markets.

The coverage they offer can still be tailored to the sponsors needs, to ensure protection is aligned with their exposures and also their financing needs.

This coverage is broadening all the time as well, with new classes of business, structural tweaks to the cat bond itself and terms and conditions that are increasingly aligning the catastrophe bond with traditional insurance or reinsurance.

They can also offer some of the purest kinds of hedges, such as the parametric trigger and industry loss trigger, both of which can be simple and offer a direct hedge for specific scenarios, with payout certainty if prescribed trigger definitions are met.

Increasingly we hear from other types of potential cat bond sponsors, with growing interest in the world’s of relief, aid and NGO’s currently, as well as resurgent interest from large corporate risk managers for whom traditional insurance markets cannot always provide the necessary capacity, or who need access to more diversifying sources of risk capital.

In the roughly twenty years that we’ve been tracking catastrophe bonds here at Artemis (details of every one can be found in our Deal Directory) we’ve seen a wide array of sponsors, structures, triggers, risks and perils, terms and conditions, but still the cat bond market continues to innovate.

The market continues to work to expand the range of use-cases for catastrophe bonds and the value of having a securitized, fully collateralized, source of capital that can pay out contingent on your level of losses suffered, the industry impact, or direct parameters linked to the specific risks you’re seeking to transfer, ensures that cat bonds remain an attractive and important piece of the risk transfer toolkit.

For investors the expanding range and remit of the catastrophe bond market also adds attraction, helping to offer greater diversity within the market and enabling portfolio composition to become more sophisticated as well.

In 2019 it looks like the work to continue to expand the remit of the cat bond, grow the types of sponsors using the tool for risk transfer, broaden the terms associated with them and increasingly align them with traditional insurance and reinsurance is set to continue. We hear good things about the longer-term cat bond market pipeline.

At the same time, there is an expectation that upward pressure will be seen in pricing of cat bonds and this is already becoming evident in transactions seen this year so far, both private and broadly marketed.

It’s also positive to note that investors have pushed back on some attempts to broaden the terms of cat bonds too much and the large cat bond investors we know remain committed to continuing to do so.

So we see the attraction of the catastrophe bond persisting, for sponsors and investors, while there is also a chance that it could intensify as large institutional investors grow their own appreciation for a risk-linked asset with all important secondary transferability, something that many investors now see as more attractive after the recent loss experience with less liquid ILS structures.

View details on every catastrophe bond transaction since 1996 in our Deal Directory.

View our range of cat bond market charts and statistics, to analyse the state of the cat bond market.

Register today for ILS Asia 2023, our next insurance-linked securities (ILS) market conference. Held in Singapore, July 13th, 2023.

Artemis ILS Asia 2023 - Insurance-linked securities conference in Singapore

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