Insurance-linked security (ILS) funds performance improves again in May

Insurance-linked security funds have continued their recovery during May, after April saw insurance-linked securities investment fund managers achieve their best performance of 2012, May has seen them beat that performance with even better returns. The average ILS fund was up by 0.52% in May, compared to 0.42% in April, bringing the year to date figure to 1.66%, according to measurements from the Eurekahedge ILS Advisers Index.

May has now become the single strongest month of ILS fund returns of 2012. Stefan Kräuchi of ILS Advisers, an investment consultancy based in Hong Kong and focused on ILS as an asset class, said that the performance of ILS funds in May was remarkable as May is typically a low-risk, low-return month. ILS Advisers have noted that the cat bond market was up in May, for the first time since September 2011 (as we’ve covered in more detail here), by 0.24% according to the Swiss Re Cat Bond Price Index and by 1.04% according to the total return index. These gains are largely down to new capital entering the sector which has stopped the downward pressure on catastrophe bond prices in the secondary market.

Stefan Kräuchi told us; “May was another strong month for ILS funds not only on an absolute basis but also compared to most other asset classes including hedge funds, which all delivered a negative performance.” This is not going unnoticed as we (at Artemis) are hearing of increasing interest in the asset class from institutional investors and once again the capacity, or size, of the market is becoming seen as a potential barrier-to-entry by some investors we’ve spoken with.

ILS Advisers confirm that the strong primary cat bond market issuance activity has now come to an end as we have entered the U.S. hurricane season, but they expect issuance to resume from late Q3 and into Q4 of the year. There is still a chance that we will see a number of primary cat bond or ILS issuances during the summer as sponsors are currently pondering the right time to bring diversifying deals to market.

Most of the catastrophe bonds issued in 2012 are now trading at above par prices, which ILS Advisers put down to continuing flows of new capital into the asset class which ILS fund managers need to deploy. The Everglades Re cat bond has traded around the 103.5 cents to the dollar mark in early June.

ILS Advisers have recently been visiting ILS fund managers in Europe. Kräuchi said; “Our recent meetings with managers in Europe confirmed the continued strong interest mainly from existing investors. We expect more new institutional investors to come into the sector on their search for non-correlated returns as the financial crisis lingers on.”

Many managers have reported new inflows of capital recently, according to ILS Advisers, and they say that this is no surprise as pension funds, particularly in Europe, are continuing to struggle to find non-correlated, stable returns. They have seen most of these new inflows of capital coming from existing investors in the asset class, but expect that dynamic to change as the financial crisis continues to impact investment returns. They expect more professional investors will begin to look at the asset class as they will no longer be able to ignore the benefits of it. That bodes well for the remainder of 2012 and could help to stimulate both catastrophe bond and ILS issuance and possibly the formation of new collateralized reinsurance vehicles or sidecars for the January 2013 renewal season.

93% of the ILS funds which make up the Eurekahedge ILS Advisers Index delivered a positive performance in May, down slightly from the 97% reported in April, although that change is likely due to more of the ILS funds having reported results by this point in the month. As a sector though, that is extremely encouraging performance and when compared to the wider hedge fund market and other asset classes it is really outstanding performance. Testament to the unique properties and investment opportunity that the ILS asset class offers to institutional investors and also to the managers running funds in the space. In April ILS funds with more allocation to reinsurance contracts performed more strongly than those who allocate more to cat bonds, but during May that changed and performance was broadly up across the spread of ILS funds.

ILS Advisers said that the only catastrophe events in May which troubled the sector were the two major earthquakes in Northern Italy, which has no impact on any funds returns, and a tornado event in the U.S. which did have some negative impact on a number of funds, we feel most likely via reinsurance losses rather than cat bond price changes.

Overall May has been another extremely positive month for the ILS fund managers and offered them a chance to recoup some of the returns lost to falling cat bond prices at the start of 2012. Cat bond price returns have continued to rise so far in June so ILS funds may see another unseasonably positive return in June as well, we’ll update you at the end of the month.

You can track the Eurekahedge ILS Advisers Index on Artemis here.