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Firmer ILS market ahead, as innovation continues apace: Twelve Capital


A firmer insurance-linked securities (ILS) market is ahead as discipline helps to slow price declines, while at the same time innovation in the ILS and catastrophe bond market continues apace, according to Twelve Capital.

Swiss headquartered ILS, insurance and reinsurance investment manager Twelve Capital highlights the ongoing development of the ILS market in an update today, saying that the asset class continues to innovate, while its appeal for investors remains high due to its low correlation to wider financial markets and strong risk-adjusted yields.

Twelve Capital highlights the low correlation attraction that ILS, and other insurance or reinsurance linked investment strategies, holds for investors, adding that recent events in the financial markets only serve to reinforce this attractiveness.

“Market volatility associated with recent macro events naturally positions the Insurance-Linked Securities (ILS) asset class at a sweet spot in the fixed income space,” Twelve Capital explains, due to the asset classes lack of correlation to these wider impacting macro events.

The ILS manager notes that the regulatory environment has been and will likely continue to be favourable for the continued development of the ILS market, with Solvency II and other changes contributing to the growth of ILS and catastrophe bonds.

Twelve Capital said; “Broadly speaking, sponsors of Cat Bonds note the potential positive regulatory capital implications of this multi-year protection mechanism.

“Moreover, the risk transfer methodology offered through this fully collateralised cover benefits cedants due to a removal of counterparty and credit risk, and assures efficient access to capital during insured events.”

In the catastrophe bond market so far in 2015, Twelve Capital notes that innovative has been helping to drive issuance, enabling cedents to benefit from increasingly flexible and all-encompassing collateralised reinsurance coverage.

The ILS asset manager highlights the return of parametric triggers in recent months (such as the Compass Re II cat bond) as a sign of this innovation, as well as the emergence of Italian earthquake risks in the Azzurro Re I Limited transaction. The convergence between traditional reinsurance and cat bonds continues and is evidenced by the inclusion of perils such as volcanic eruption more frequently in multi-peril deals.

Twelve Capital itself has continued to innovate with its private cat bond series Dodeka (details of it’s latest transaction here), which enables the asset manager to source risk, transform and securitise it in a cost-efficient manner to add to its own portfolio diversification and returns.

This also benefits Twelve’s clients, the asset manager said, by enabling faster and more efficient use of capital. The average return of these Dodeka transactions is also above the average in the wider catastrophe bond market, with Twelve disclosing that “The potential average return to investors of these transactions is expected to exceed 7% annually.”

Twelve Capital expects that the private cat bond universe will continue to expand, with issuance, perils and risks expected to expand. Twelve itself intends to continue to push forwards its self-originated and executed Dodeka series.

Twelve Capital notes that the private ILS market, which encompasses private cat bonds and collateralised reinsurance deals, continues to allow greater access to re/insurance opportunities. These privately placed deals typically generate higher returns than cat bonds, the asset manager notes.

However, the manager notes that the premium above cat bond returns is largely due to the shorter and less liquid nature of these transactions, but that private ILS also enable ILS funds to be better diversified into a broader range of perils and regional risks, including man-made risks such as fire and marine.

Twelve Capital notes that price declines have slowed to stabilised in cat bonds and ILW’s and believes this is a sign of discipline among ILS markets. As a result the asset manager remains positive on the ILS space, but also notes that the sophisticated nature of ILS investing means managers are sticking to certain return requirements.

“The ILS space has been shown to be a very sophisticated market, keen to collect the right premium over risk and continuing to use complex mathematical modelling to ensure pricing remains appropriate and that margins are not eroded,” Twelve Capital explains.

As a result, Twelve Capital says that it expects to see a firmer ILS market over the next six months of this year and that even without any significant loss expects to see continued pricing stabilisation in private ILS transactions at future renewals.

Twelve Capital believes that the ILS market shows signs that pricing is rational and margins will be kept attractive, thanks to discipline among those in the space. This will be seen as positive news by many in ILS and also more broadly in the reinsurance market.

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