Kortis Capital Ltd., a Cayman Islands domiciled SPV, is to issue a series of longevity-linked insurance-linked securities (or catastrophe bonds) on behalf of cedent Swiss Re. This is the first cat bond type structure used to transfer longevity risks to the capital markets (we believe). Previously Swiss Re have been involved in cat bond transactions protecting it from increased mortality of policyholders (such as the Vita Capital series) but not from increasing longevity.
Longevity risk is a growing problem as life expectancies increase and policyholders are expected to draw down on pension benefits for longer. This leaves insurers with a gap in their accounting which they are now trying to plug through longevity hedging and risk transfer mechanisms. It’s not surprising to see Swiss Re attempt to bring this longevity catastrophe bond to market as they have such experience in this area (cat bonds, capital markets risk transfer and longevity risk management).
So, Kortis Capital Ltd. through this transaction aims to transfer longevity risks (risk of people living longer) to the capital markets for Swiss Re. “However, they do this in relative, rather than absolute terms through the differential performance of different age-groups in different countries” said Standard & Poor’s credit analyst Paul Bradley in their press release about this deal. Noteholders who invest in this transaction will be bearing the risk of an increase in the ‘difference between the annualized mortality improvement in a U.K. age group and the annualized mortality improvement in a U.S. age group, over eight years of mortality improvements from Jan. 1, 2009, to Dec. 31, 2016.’ The two geographical age-groups are U.S. males age 55 to 65 and UK males age 75 to 85.
The trigger is defined at the start of the transaction and based on the eight year total risk period for the deal. Probability of loss and magnitude of loss depend on how large the divergence in mortality improvements is between the geographical age-groups and how much it exceeds the set attachment point.
The index of longevity that the deals trigger will utilise has been constructed from population mortality data from the U.S. Centers for Disease Control and Prevention and the UK Office for National Statistics (England & Wales only).
Proceeds from the sale of the notes from this deal will be invested in AAA rated International Bank for Reconstruction and Development notes and deposited in a collateral account. Standard & Poor’s says ‘Swiss Re and Kortis Capital will enter into an ISDA-based counterparty contract under which Swiss Re will make payments in exchange for protection against a greater-than-expected change in the differential between the mortality improvement of older U.K. (England and Wales) males, aged 75-85 inclusive, and younger U.S. males, aged 55-65 inclusive.’ So if the longevity index divergence index value exceeds the specified trigger level some of the collateral will be sold to make payment to Swiss Re and as such the principal of the notes will be reduced (and investors see losses).
The value of the deal is as yet unknown. Standard & Poor’s gave the proposed single tranche of Series 2010-1 class E notes to be issued by Kortis Capital Ltd. a preliminary rating of ‘BB+’.
This is a really interesting transaction and we look forward to receiving more information as the deal comes to market. If successful this deal could lead the way for other re/insurers with longevity risks to copy the structure and so this adds a new method of longevity risk transfer to the market. We will add this to our cat bond deal directory and keep the information there updated.