Espada Re 2016-1 cat bond sees USAA looking for broader protection

U.S. military mutual insurer USAA has returned to the catastrophe bond market with a new issuance vehicle and different approach, as it seeks a source of broad multi-year and peril reinsurance protection from the capital markets through an Espada Reinsurance Limited (Series 2016-1) transaction.

This marks the first time USAA has sought to access the capital markets through a vehicle that isn’t named Residential Re. USAA has 25 separate catastrophe bond issues listed in our Deal Directory, going back to 1997, making it the most prolific single sponsor in the history of the cat bond market.

It’s not just the issuing vehicles name that USAA is stepping away from tradition with, in this Espada Re 2016-1 cat bond. The structure differs a little and the covered perils have been expanded, as USAA seeks to secure collateralized reinsurance that will respond across a section of its reinsurance program.

Espada Reinsurance Limited is a recently registered Cayman Islands domiciles special purpose vehicle established for the issuance of catastrophe bonds by USAA. Sources have suggested that we may not see the Residential Re name in the cat bond market again, if this new deal is successful and proves that investors have an appetite for supporting a broader level of protection for USAA.

With this Espada Re 2016-1 cat bond USAA is seeking between $50m and $100m of collateralized reinsurance protection, as it tests the market’s appetite for the terms of this deal. The issuance will provide multi-year cover over a risk period running for four years from June 2016 to June 2020, we understand.

Espada Re 2016-1 will provide USAA with reinsurance protection across the U.S. for the perils of U.S. tropical cyclones, earthquakes, severe thunderstorm, winter storm, wildfire, volcanic eruption, meteorite impact.

These are the same perils covered by recent Residential Re cat bonds. However for Espada Re USAA has also added a classification of “other perils” which are defined as naturally occurring events that are identified as catastrophes by reporting agency PCS.

This is very interesting as it means a successful Espada Re cat bond would cover flooding risks, storm surge, rainfall events, avalanche and more. It effectively guarantees USAA coverage for any natural catastrophe or weather event that could cause it a major loss. Espada Re could perhaps include coverage for such rare events as a major fire caused by lightning strike (a natural event). The “other peril” classification does not include man-made loss events however, we’re told.

The coverage provided is, as you might expect given the broader peril definition, on an annual aggregate basis and the transaction will utilise an indemnity trigger.

The Espada Re 2016 cat bond also gets interesting when you look at the layer of USAA’s reinsurance tower it will cover and as a result how it will respond to losses.

The Espada Re 2016-1 Class 20 tranche of notes that are being issued, while only between $50m and $100m in size, will provide coverage across a broad layer of USAA’s reinsurance program of around $1.5 billion from an attachment point modelled at just under a billion up to an exhaustion point around $2.5 billion.

That means the coverage is on a percentage pro-rata basis across that full range of losses, which with the notes being aggregate could suggest that USAA is testing the waters for a much more meaningful use of the capital markets across its reinsurance program in future.

If the deal is successful you could easily see USAA issuing further tranches of Espada Re notes to increase the capital markets percentage of this layer of its reinsurance program. With the broader all natural peril type coverage the covered event definition would provide, this could be a very interesting trial for the ILS market, perhaps reflecting how a large insurance cedent would like to be able to access capital markets coverage.

As a result of the wide layer that is covered the Espada Re 2016-1 Class 20 catastrophe bond notes will have slightly unusual metrics, with an attachment probability that is quite high at 8.33%, while the expected loss remains lower at 1.93%, sources said. This reflects the greater probability of a loss occurring, while the loss is likely to be smaller due to the way the protection is spread pro-rate across the reinsurance layer.

We understand that the notes are being marketed to ILS investors with coupon price guidance of 5.25% to 5.75%, so offering a multiple that is inline with the market average at this coupon level.

Espada Reinsurance 2016-1 is a very interesting catastrophe bond and could signal a change of approach for USAA in how it accesses the capital market. USAA has always innovated in the cat bond market, but this deal could open the door to the insurer making the capital markets an even more meaningful part of its reinsurance program, which would perhaps stimulate other sponsors to look at doing the same.

Espada Re 2016-1 is being structured by Rewire Holdings LLC and we understand that the firms web-based marketplace, Rewireconnect, is being used to market the notes. SDDCO Brokerage Advisors, LLC is said to be acting as placement agent (or bookrunner) for this transaction.

We understand that the Espada Reinsurance Limited (Series 2016-1) catastrophe bond is expected to price this week and complete before the end of the month. We will update you if any further information emerges and you can read all about this and every other USAA sponsored catastrophe bond in our Deal Directory.