Demonstrating that catastrophe bond funds and investors won’t buy into risk at any cost, we’re told that the second California wildfire cat bond from the Los Angeles Department of Water and Power (LADWP), the still unsized Power Protective Re Ltd. (Series 2021-1), has seen its price guidance rise considerably.
The second Power Protective Re cat bond started to be offered to insurance-linked securities (ILS) funds and investors at the end of August, but things went very quiet and we understand that gaining investor acceptance for a new wildfire cat bond at a time California was burning proved challenging.
This has resulted in a relatively significant increase in the coupon offered with the notes, we understand from sources, while at the same time we’re told not to expect this to be a particularly large cat bond issue.
The timing has also slipped, due to the time needed to gain investor support and what was expected to be a September issuance is now likely to fall into October, we’re told, although final pricing could happen before the end of this month.
The Los Angeles Department of Water and Power (LADWP) is the largest municipal utility operating in the United States and serves more than four million residents.
It sponsored a first wildfire cat bond last year, with a $50 million Power Protective Re Ltd. (Series 2020-1) that featured a parametric trigger.
But the new issuance is an indemnity cat bond, with the utility set to access the capital markets for wildfire insurance protection via an insurance agreement with a protected cell of Aon’s Vermont-based White Rock cell captive vehicle, acting as a fronting carrier for the transaction.
The White Rock protected cell would then be reinsured by global reinsurance company Hannover Re, which is the same chain of protection as the first Power Protective Re cat bond transaction.
So, Hannover Re would reinsure the wildfire risks for White Rock, then interface with the capital markets vehicle, fronting the wildfire risks for the LA utility via a retrocessional reinsurance agreement with the special purpose insurer (SPI) named Power Protective Re Ltd.
The size of the wildfire cat bond was always uncertain, but with an attachment point of $125 million of losses to the LADWP and an ability to cover a share of losses up to an exhaustion point of $275 million, it seemed the absolutely maximum size would be $150 million.
We’re told that now, given the challenges in gaining investor support, the Power Protective Re 2021-1 wildfire cat bond is likely to be relatively small in size.
The single tranche of Series 2021-1 Class A notes that are still set to be sold to investors will see the proceeds used to collateralize the retrocessional reinsurance agreement, enabling the risk to flow from LADWP to the capital market investors via Hannover Re and Aon’s White Rock.
They will cover wildfire losses across the state of California for the LADWP, on an indemnity and per-occurrence basis, across a three-year term.
The Series 2021-1 notes to be issued by Power Protective Re will have a modelled expected loss of 0.64%, on an average fire hazard basis, or 0.76% on a high fire hazard basis, and were at first offered to investors with a coupon price guidance range of 10.75% to 12%.
But we’re now told this has risen considerably and at the latest update we understand that they coupon pricing offered is now 15%.
This price hike reflects the appetite of cat bond investors to be paid in a manner they see as commensurate with the risk, especially as California wildfire season has been very active already this year.
But it is encouraging to learn that the LADWP persists and wants to secure this layer of cat bond backed wildfire insurance, suggesting that even at such a high multiple the coverage available from the cat bond market is a valuable complement to what traditional insurance it can secure.
Getting traditional wildfire insurance and reinsurance in California is increasingly challenging, especially during the season and with peak season approaching, it makes sense for cat bond funds and investors to stand their ground and demand a return that makes them comfortable to assume this risk.
It will be interesting to see what size this cat bond settles at, as even at this higher pricing it still could encourage other utilities to look to the catastrophe bond market in 2021 for wildfire insurance.