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Investors keen for catastrophe bonds due to light supply


Despite the heavy loss activity of the first half of 2011 and the particularly low issuance levels during Q2, investors are still keen to invest in catastrophe bonds say Willis Capital Markets & Advisory (WCMA) in their latest Insurance-Linked Securities (ILS) Market Update which was published yesterday.

This sentiment is in line with our own observations and learnings from discussions with investors and market participants. The demand is still there, in fact it could be as high as it’s ever been given the interest being seen from investors such as pension funds, but supply is not keeping up with that demand leaving investors to either hold their money or seek alternative routes into the catastrophe and insurance risk linked investment space. Read our previous article in which we discussed investors receptiveness to diversification opportunities with Bill Dubinsky of WCMA.

The report from Willis finds that while the ILS and cat bond market digested and dealt with losses from events as devastating as the Japan earthquake “in an orderly fashion, with relatively little disruption”, the launch of the new RMS hurricane model managed to cause enough uncertainty in the market to stall issuance, impacting the pricing and capacity of Q2 transactions.

$2.1 billion of outstanding cat bonds matured in Q2 and the $300m Muteki Ltd. cat bond was a total loss after the Japanese earthquake, meaning that the market shrank and over the course of 2011 is now about $2 billion down (more details on the size of the outstanding cat bond market in a previous article here).

Bill Dubinsky, Head of ILS at WCMA, maintained a positive outlook for the sector saying, “Investors have cash to invest and remain keen on risk in cat bond form, but are somewhat starved of new issuance, particularly non-U.S. wind exposed deals. The cat bond market should see an uptick in deals in the second half of 2011 as investors get more certainty around how the new RMS hurricane model will affect pricing. It will also benefit from the increase in ex-U.S. catastrophe reinsurance pricing.”

Again, the sentiment we hear from the market echoes the thought that the market is coming to terms with how to deal with model changes and issuance is likely to return to more normal levels by the end of the year. Interestingly the Willis report also suggests that investors who were previously happy using a single model to assess risk in a cat bond transaction may opt for a multi-model approach in future. Willis say ‘The art of cat bond underwriting is evolving’.

However, Mr. Dubinsky noted that the cat bond market is overweight on U.S. hurricane risk (more on this here) and warned that the markets performance over the rest of the year will rest on what happens during the hurricane season.

The quarterly ILS report from Willis (downloadable here) includes some interesting graphs and commentary on the outlook for the market. They hint at potential trends emerging on the structuring side, such as a loosening of collateral terms and attempts to make ILS more efficient by following some of the practices undertaken in private market transactions. That’s certainly the way we see the market heading, with the private deals allowing innovative structures to be issued which could in future be applied to rated cat bond and ILS transactions.

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