Industry loss warranties (ILW’s) have responded to capacity constraints and return demands from insurance-linked securities (ILS) markets, becoming the next instruments to see a slight hardening in prices after catastrophe bonds.
Cat bonds were the first risk transfer instrument to seemingly find the bottom of the capital market investors return requirements, with a slight uptick in spread above the expected loss at issuance seen throughout most of the first half deals this year.
The industry loss warranty (ILW) market has been quick to follow, with many reports that ILW prices have seen a slight hardening, due to a number of factors in the market combining with ILS investor minimum return demands.
Market sources suggest that ILW prices began to stabilise as the June renewal approached, thanks predominantly to one very large buyer soaking up a significant amount of capacity for Florida and U.S. focused ILW protection, as well as some ILS fund managers buying protection.
This coincided with ILS investors reaching the absolute bottom of their appetites for assuming peak U.S. catastrophe risks, as evidenced by recent cat bonds, which saw new quoting for ILW’s slightly up on previous months.
At the same time there was a significant amount of collateralized reinsurance being underwritten at June 1, resulting in a lot of alternative market capacity being tied up or held back for more collateralized deals in July.
The resulting capacity squeeze from all of these factors helped ILW writing markets to begin to dictate prices to a degree, resulting in a firming of ILW rates across the U.S. peak exposed regions.
Reinsurance broker Willis Re noted the firming in its recent July renewals report.
At July 1 the broker noted “smaller decreases in ILW catastrophe pricing” with some signs of hardening across U.S. wind exposed ILW’s due to demand in the marketplace.
Demand factors seem to have driven any hardening in ILW’s, with Willis Re saying that price firming was “dependent upon timing and capacity size but ranged from between a 5-15% increase
from January 2015.”
Demand for ILW capacity was highest in U.S. first event wind risks, Willis Re said, with Florida leading the way. This demand came from ILS funds looking to hedge out their top exposures using ILW capacity and from traditional reinsurers looking to manage their maximum loss exposures.
Reinsurance broker Guy Carpenter also noted this trend in its mid-year renewal report, saying “We have seen some firming in the Industry Loss Warranties (ILW) market with demand increasing.”
The firming in ILW pricing seems to be a convergence of two factors, strong demand at a time when ILS funds and capital market players have not been accepting large new inflows of capital, resulting in a slight capacity crunch. And ILS investor discipline refusing to be pushed any lower on price, as seen in cat bonds.
However, more traditional retrocession capacity remained under pressure at the June and July renewal, we understand, so there is likely to be some continued pressure on ILW pricing going forwards. Whether markets choose to support this or push back will be interesting to watch as January approaches.