The article we published yesterday on the average upsizing of catastrophe bond and insurance-linked securitizations (listed in our Deal Directory) so far in 2013 drew a number of questions. Some readers wanted to know how the pricing for these transactions had changed during the time they were offered in the market to investors, so we’ve done our homework and come up with an average price, or coupon, drop of -16% across the deals we have data for.
Yesterday we looked at all of the cat bond transactions which have completed so far in 2013 and saw that the average increase in issuance volume, or upsizing, for these cat bond deals was 40%. The largest increase in deal size was seen with the most recent cat bond to close, Tar Heel Re Ltd., which increased in size by 150% from $200m to $500m.
While cat bonds increase in size for sponsors, effectively growing the amount of coverage the sponsor benefits from, cat bond deals also have a habit of seeing the advertised pricing change as well. The pricing relates to the securitized notes coupon that is paid to investors. This is a percentage (often measured in basis points or bps) which investors receive in return for taking on the risk and is typically explained as a fixed percentage above the return of the collateral investments. With collateral typically invested in low-yielding treasuries or money market funds, the coupon is effectively where nearly all of the cat bond investors yield comes from in the current interest rate climate.
For the sponsor the coupon reflects the bulk of the transactions cost over the duration of a cat bond. A good example of the cost of a cat bond was recently given by Florida Citizens, who said that its latest deal Everglades Re Ltd. (Series 2013-1) which priced with a coupon to investors of 10% had actually cost the insurer 11.5%. In this way the coupon can be thought to be similar to a reinsurance or retrocessional rate-on-line, minus a few transactional costs that also need to be factored into a cat bonds cost-effectiveness by the sponsor.
In 2013 so far we have seven tranches of cat bond and insurance-linked securities notes for which we have the details of the marketed and final coupon prices. We’ve taken the mid-point of the marketed coupon price range and the final price figure and worked out the average percentage reduction in coupon level to be -16% across the seven tranches of notes. If you were to take the upper end of the initially advertised range that drop increases to -21%, as you’d expect.
Here’s the actual data, with pricing in basis points:
|Tranche||Pricing launch||Pricing mid-point||Pricing close||% change from mid-point to close|
|Vitality Re IV Class A||350-425||387.5||275||-29%|
|Vitality Re IV Class B||450-525||487.5||375||-23%|
|Caelus Re 2013 Ltd. (Series 2013-1)||675-775||725||525||-27%|
|Everglades Re Ltd. (Series 2013-1)||1100-1200||1150||1000||-13%|
|Merna Re IV Ltd. (Series 2013-1)||250-300||275||250||-9%|
|Caelus Re 2013 Ltd. (Series 2013-2)||625-725||675||685||1%|
|Tar Heel Re Ltd. (Series 2013-1)||900-1000||950||850||-10%|
There is an interesting trend which becomes apparent here. The deals run down the above table from the start of the year to the most recent and you can see that as we moved through the quarter the percentage drop in pricing reduced. The most recent deals have seen much smaller price reductions, something particularly evident in the two Caelus deals, one of which saw a -27% change in coupon while the second Caelus saw a 1% increase from the mid-point. This shows that those marketing the transactions, and setting the price guidance ranges, got a feel for the coupon level that investors were willing to accept as we moved through the first quarter and began to pitch them more accurately.
So what does the -16% drop in coupon prices actually mean. Well the seven tranches of notes have a combined volume of $1.79 billion. The average mid-point coupon level when these deals began marketing was 6.64% across the tranches, while the average coupon at each deals pricing works out to be 5.66%. This means that the sponsors could have paid investors, on average, almost 1% more in coupon interest had the pricing on these deals not dropped from the mid-point of the marketed range, that’s quite a sum of capital saved for those sponsors.
Factor in the upsizing of these deals that we wrote about yesterday and it’s easy to see how an upsized cat bond which also sees pricing reduced by strong investor appetite can be an extremely pleasing outcome for a sponsor or cedant. Hence the amount of focus that recent cat bond pricing and discussions of a soft market in 2013 has attracted in the media and in market discussions.
Of course, it has to be pointed out that pricing of cat bonds is not as exact a science as you might have thought, despite the countless computer models that are used to assess and rate the risk of each deal. This is one reason that cat bonds are marketed with a coupon pricing range, it’s a range that the transaction is expected to complete within but that is by no means a guarantee as has been witnessed in transactions such as Caelus Re 2013 Ltd. (Series 2013-1) which dropped by 1.50% percentage points below the marketed range. In this way investor appetite and market conditions can, and will likely continue to, dictate pricing to some extent as we’ve been seeing so far this year.
We’ll return back to these metrics, of upsizing and pricing reductions (or otherwise) of recent cat bond deals, later in the year, to see whether the trend towards larger and cheaper deals continues in 2013.