Swiss Re Insurance-Linked Fund Management

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Montana Re cat bond upgraded as reverts back to second-event status


Two classes of notes issued by Montana Re Ltd. in its Series 2010-1 catastrophe bond deal have been upgraded by ratings agency Standard & Poor’s. The $210m cat bond sponsored by reinsurer Flagstone Re affords them cover for U.S. hurricane, U.S. earthquake, European windstorm, Japan typhoon and Japan earthquake events. The Class C and Class E tranches of notes were both downgraded during 2011 due to the two events which most impacted the cat bond market, the Tohoku earthquake and the new RMS hurricane model.

After the Tohoku, Japan earthquake last March, the Class E tranche (which contained the Japan earthquake exposure) of Montana Re’s notes were downgraded as the deal was activated by the earthquake qualifying under the terms of the transaction. This meant that the cat bond was at risk from any future events which qualified under the terms of the deal. That is how a second-event cat bond works, the first event is an activation and then investors are at risk from any further events which qualify so at least two covered events must happen before investors risk a loss of principal.

In Montana Re 2010’s case, investors will now be breathing a sigh of relief after the first risk period ended in December without any further qualifying events occurring. Now the Class E notes revert to being second-event notes after the annual reset. As a result S&P reverted the ratings to where they were when the transaction originally closed. The Class E notes were upgraded on Friday from ‘CCC’ to ‘B-‘.

The Class C notes were downgraded due to the update to the RMS U.S. hurricane model in their RiskLink V11.0 release. The new model indicated that the initial probability of attachment for the notes was greater than had been indicated in the modelling done at the time of issuance using the earlier version of the model. At the time S&P downgraded the notes.

Now the annual reset has been performed and the new probabilities of attachment calculated with the latest RMS models and S&P are happy to upgrade the notes again. The probability of attachment for the Class C notes has been calculated as 5.27% and for the Class E notes 6.02%. S&P upgraded the Class C notes from ‘CCC+’ to ‘B’.

The fact that the probability of attachment of the Class C notes has been deemed not to have been affected enough for the downgrade to stick is a big vote of confidence in the new RMS model. At the time that cat bonds were downgraded after the new model was released it seemed unlikely any would be upgraded again.

You can real all about Montana Re Series 2010-1 in our deal directory.

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