Swiss Re Insurance-Linked Fund Management

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K2 sees positive mid-year ILS dynamics, now “strongly overweight” retro


The mid-year reinsurance renewals and catastrophe bond activity saw positive developments in market dynamics according to hedge fund specialist manager K2 Advisors, which has also updated its view to “strongly overweight” for retrocession investments, in response to improved conditions.

k2-advisors-logo“Pricing was attractive to us across all ILS natural catastrophe risk tiers during the June renewal period,” the investment research team of K2 Advisors, a hedge fund focused asset management unit of Franklin Templeton, explained.

Summarising mid-year market dynamics for insurance-linked securities (ILS), the K2 Advisors team said, “Lack of available capacity in retro and private reinsurance has contributed to higher pricing while catastrophe bond spreads continued to widen to decade highs.”

Further noting that, “As floating rate instruments, ILS strategies should benefit from the rising-rate environment.”

The K2 Advisors team believe that the combination of improved reinsurance pricing and higher cat bond coupons, alongside much-improved terms and conditions are driving a far better opportunity set in insurance-linked securities (ILS).

Last year it updated the K2 Advisors view to “strongly overweight” for catastrophe bond and private insurance-linked securities (ILS) investments, as pricing was on the rise and market conditions looking favourable for investors.

More recently, the investment research team of K2 Advisors continued to recommend clients allocate to certain areas of the private ILS market and catastrophe bonds, given still improving fundamentals.

The team has become increasingly constructive on cat bonds and other insurance-linked securities (ILS) investments through the recent mid-year reinsurance renewals.

Saying that, “Compounded annual rate increases over the last five years have led to a pricing environment last seen in the 2011–2013 timeframe.”

But adding that, “Unlike past instances of rate hardening, there was not a large influx of capital into the market, either via new reinsurance startups or new ILS fund ventures.

“Throughout the second quarter, the catastrophe bond market spread continued to widen, and now is at the highest level since 2013. We believe this widening, combined with a rising rate environment, provides an attractive total return potential for the strategy.”

While remaining positive on cat bonds and private ILS investments, the K2 Advisors view has now been updated on investments into retrocessional reinsurance opportunities as well.

Given the lack of capacity available for retro has helped to improve pricing further there, resulting in more attractive options for capital deployment, the K2 Advisors team now hold a “strongly overweight” view on retrocession as well, as of this month.

Meaning that for the third-quarter of 2022, K2 Advisors is strongly overweight catastrophe bonds, private ILS and retrocession, while industry loss warranties (ILW’s) are still viewed as an underweight type of asset for now.

As a result, it seems K2 Advisors hopes the positive ILS market dynamics seen at the mid-year will continue through 2022, providing attractive opportunities for capital deployment and investment for its clients.

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