ILS delivers genuine diversification for alternatives allocations: Sage Advisory

Given most traditional alternative investments rely on the same economic drivers as the broader market, ILS highly differs because its returns are tied to natural catastrophe or insurance events rather than economic cycles, which leads Sage Advisory Services to say that investing in insurance-linked securities can achieve genuine diversification.

A new report, authored by Andrew Poreda, Vice President, Senior Research Analyst, explains that private credit, private equity, real estate, and infrastructure all offer different ways to access economic and corporate risk.

However, he points out that insurance-linked securities offer investors access to a different risk premium entirely, “across a $144.5 billion market in which catastrophe bonds are the visible half and privately negotiated reinsurance is the broader one, tested on a contract calendar that does not negotiate.”

“Most of what sits inside a typical alternatives allocation, whether private equity, private credit, real estate, or infrastructure, ultimately depends on the same small set of drivers. Corporate earnings. Financing costs. Refinancing availability. Exit valuations. Economic growth. These investments differ in structure and implementation. They do not always differ in what makes them work or fail,” Poreda explains.

“Insurance-linked securities, or ILS, are one of the few allocations that genuinely do. Their returns are driven primarily by insured catastrophe events rather than by the business cycle. For portfolios that have spent a decade adding alternatives without adding independent risk drivers, ILS is the missing piece.”

Further into the report, the VP emphasises that private equity depends on corporate earnings growth and exit markets, while private credit depends on borrower cash flows and refinancing, and real estate and infrastructure depend on financing costs, demand, and asset values.

Given this, each investment is highly sensitive to both the cost and overall availability of capital.

All of which leads Poreda to underscore how bringing ILS into a portfolio offers structural diversification and deterministic liquidity.

“A hurricane does not make landfall because earnings disappointed. An earthquake does not wait for refinancing markets to reopen. A wildfire is indifferent to the corporate default cycle. It also answers the realization question differently. A catastrophe bond matures on a date. The collateral is either returned or used to pay a claim, and the contract calendar decides which, not an exit market, a refinancing window, or a sponsor’s willingness to accept a mark. The valuation is tested at every maturity, whether or not anyone finds the answer convenient,” the report reads.

“The historical record reflects that independence. Sage research covering the most recent ten-year period found catastrophe bonds generated approximately 7.0% annualized returns with 4.6% volatility, a 1.53 Sharpe ratio, and a 2.50 Sortino ratio. Over the same period, cat bonds posted positive returns in roughly 79% of the months in which the S&P 500 declined.”

Importantly, the report also adds that the ILS market is not exempt from capital flows, going on to further explain that consistency within the space requires acknowledging that record cat bond issuance and strong inflows compress spreads in ILS as well.

The report acknowledges that cat bond spreads have tightened from their post-2022 peaks, whilst adding that recent index results have benefited from a period of limited insured losses rather than from structurally superior pricing.

“An investor allocating today should not assume the entry point that was available two or three years ago. The asymmetry is not that ILS escapes capital flows. It is what those flows do to the underlying strategy. In private credit, inflows create pressure to deploy. A manager who cannot source loans on the original terms chooses between holding capital idle and accepting something different, whether that means larger borrowers, thinner spreads, weaker covenants, or transactions outside the strategy investors funded. Fee structures and deployment expectations rarely reward patience,” Poreda continued.

Conversely he explains, “In ILS, a manager facing unattractive pricing can hold collateral, decline the renewal, and wait for the next cycle without changing the nature of the risk being underwritten. Catastrophe risk reprices on a regular renewal calendar rather than deal by deal, which gives capital a more visible mechanism for reflecting supply and demand.”

The report then turned attention to the private ILS market. Citing data from broker Aon, who estimates that total alternative capital deployed through ILS and related collateralized structures reached a record $144.5 billion as of June 30, 2026, Poreda also highlighted that outstanding catastrophe bond issuance reached a record $63.4 billion over the same period, up 17% year over year.

“That means catastrophe bonds represent roughly 44% of the ILS market. The remaining balance, on the order of $80 billion, sits in privately negotiated structures,” Poreda said.

Adding: “Aon describes the market as having matured into “foundational reinsurance capital,” and the composition reflects that. Outstanding sidecar capital reached approximately $23 billion across property and casualty lines, roughly 50% higher than year-end 2024, driven by growth in casualty-focused and asset-intensive structures. The balance sits in collateralized reinsurance, industry loss warranties, quota shares, and related private transactions.”

Given that private ILS contracts generally tend to be annual rather than multi-year, they resolve on a defined schedule rather than waiting on an exit market, and the loss determination turns on whether a covered event occurred rather than on a negotiated view of enterprise value.

Poreda emphasises that ILS remains considerably smaller than private credit, and capacity is finite. The VP observes that exposures can concentrate by peril, region, and season, and catastrophe modeling is an assumption-driven exercise that reasonable parties can dispute.

“ILS is a complement to an alternatives program, not a replacement for it. But the sizing question cuts both ways. A $144.5 billion market growing at 8.3% annually can absorb a meaningful allocation from a portfolio that currently holds none,” Poreda said.

“The practical case for ILS is not that it will out-earn private credit next year. It is that it does something the rest of the alternatives bucket cannot do for itself,” Poreda continued.

According to the VP, three key questions help to frame the sizing decision. What proportion of the alternatives allocation is contingent upon corporate earnings, financing costs or exit valuations? To what extent has the portfolio’s reported value been validated through external acquisition offers in recent periods? And what constitutes the source of capital, and what level of liquidity is genuinely necessary?

The report concludes by noting that alternatives allocations have expanded to represent one-third or greater of many institutional investment portfolios. Furthermore, more than nine in ten institutions currently maintain exposure to both major corporate-linked private exposures.

However, Poreda states that realization rates have decelerated throughout most asset categories, emphasising that valuations increasingly depend on estimates rather than market-based transactions, and liquidity has transitioned from a theoretical consideration to a practical operational constraint.

“Against that backdrop, the marginal alternatives dollar is worth more when it buys a different risk than when it buys more of the same one. Private credit, private equity, real estate, and infrastructure all offer different ways to access economic and corporate risk. Insurance-linked securities offer access to a different risk premium entirely, across a $144.5 billion market in which catastrophe bonds are the visible half and privately negotiated reinsurance is the broader one, tested on a contract calendar that does not negotiate. For portfolios that have spent a decade building the alternatives bucket, the next step is not making it larger. It is making it genuinely diversified,” Poreda concludes.