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Original Risk: A Society for Change Agents

Mariah Re catastrophe bond payout goes to litigation


The story of the Mariah Re Ltd. catastrophe bonds is not over yet. The two severe thunderstorm cat bond issuances by the Mariah Re Ltd. special purpose vehicle were both stricken by one of  the worst U.S. tornado seasons on record in 2011, causing both series of cat bond notes issued by Mariah Re to default and investors to lose their principal in full.

Now, the Mariah Re story has come back to life with the news that the cat bond payout is being disputed in the U.S. District Court of Southern New York. We understand that the law suit has been filed by Mariah Re’s liquidator and the case has been brought against the cat bonds sponsor, American Family Mutual Insurance as well as risk modeller AIR Worldwide and Insurance Services Office, Inc. (ISO).

To refresh your memory, the two Mariah Re cat bond issuances, Mariah Re Ltd. (Series 2010-1) and Mariah Re Ltd. (Series 2010-2), provided their sponsor American Family Mutual Insurance Co. with fully-collateralized reinsurance protection against U.S. severe thunderstorm events (so including tornadoes) and used an industry loss trigger on an annual aggregate basis.

The 2011 U.S. tornado season became one of the most active on record, unfortunate timing given that the Mariah Re cat bonds were the first to solely cover severe thunderstorms and were issued in late 2010. Qualifying aggregate losses from tornado events began to climb as the 2011 season progressed, until the point where losses passed first the attachment point and then the exhaustion point for each of the tranches of notes, effectively making them a total loss and causing investors to lose their full principal.

We knew back in January 2012 that there had been some concerns in the market about the way events had qualified as aggregate losses for the Mariah Re cat bonds. Two qualifying catastrophe events had their classification changed from non-metro to metro events, which caused the amount of losses that qualified to jump significantly taking the aggregate losses towards the exhaustion levels.

At the time we wrote that some investors had questioned the change in estimates for these two events, but as we said then any questions would likely be answered by the details in the transactions offering documentation. If the method and process for changing or upgrading a loss event to metro were documented, and the documented processes were followed, then it seemed unlikely that investors questions would lead to a dispute.

It appears that the investors questions have perhaps not yet been answered to their satisfaction and hence this law suit has been filed. The litigation has apparently been brought by the liquidator of the Mariah Re Ltd. vehicle, but likely on the request of investors in the transaction.

As we understand it, the law suit is attempting to claim back $100m, which is likely from the Mariah Re 2010-1 series of notes, as the 2010-2 series was riskier, attached first and exhausted first. The complaint was filed on the 3rd July and claims that the reporting on catastrophe events was revised in order to raise the aggregate losses and enable American Family Mutual to claim a payment under the terms of the cat bond.

This appears to all come down to the non-metro to metro change to these two catastrophe events which had their classification changed during the annual risk period. As this change in classification of the severity of catastrophe events led to the cat bond attachment and exhaustion being breached investors are clearly questioning the processes used here.

There are other claims regarding the catastrophe event report in question, saying that the report had been backdated and that typical reporting processes had not been followed. The lawsuit calls for AIR and ISO to be charged with breach of contract and for them to reinstate the original report, before the event classification change. American Family is accused of interference with the contract.

This law suit should serve as another reminder that the detail in a catastrophe bond offering document, or indeed any other reinsurance contract or ILW offering, needs to be absolutely bullet-proof, as loose documentation is a leading cause of litigation, it would seem. If the processes have been well documented, and followed, for event classification then it is likely the law suit will not succeed. If the litigation can prove that the re-classification of catastrophe events to metro in this way was not documented and the processes followed were not expected, or made clear to investors under the terms of the catastrophe bond deal, then it does perhaps stand a chance of succeeding.

We’ll update you as and when we hear anymore about this Mariah Re Ltd. catastrophe bond law suit.

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