The downward price pressure seen on many bonds in the secondary market for trading in catastrophe bonds and insurance-linked securities (ILS) during March has persisted into April, as lower yielding cat bonds particularly struggled.
We reported a month ago that downward pressure was being seen on yields of many outstanding catastrophe bonds, with prices slipping as a result especially on lower yield notes. That has not helped ILS funds which have large allocations to cat bonds, or which are pure cat bond funds, with some seeing negative monthly returns as a result.
This pressure persisted through April, partly triggered by reasonably active primary catastrophe bond issuance, but also by the fact that investors remain extremely focused on investing in, or holding, higher yielding positions in the outstanding market.
The fact that lower yield cat bond positions have gone out of favour is no surprise. With new issuance at or even above (in some cases) the yields seen on cat bonds from 2014, the 2015 issuance is tending to be more attractive to investors. That’s leaving some vintages of cat bond issuance out in the cold and as a result the pricing slides.
Craig Bonder, Managing Director at AK Capital, commented; “We discussed last month the downward pricing pressure especially on the low yielding securities. This pressure for the most part remained for the month with many securities trading below their last prints.”
With reasonably active primary issuance of over $1 billion, April also saw its fair share of secondary cat bond trades by ILS managers and investors looking to adjust portfolios.
“We saw the usual portfolio rebalancing and active trading to accommodate these new deals and cash holdings. That said with so many deals being brought to market, some of which containing intriguing features, we did see pockets of slowdown in trading activity,” Bonder explained.
Interestingly and perhaps testament to a more active secondary ILS market this year, Bonder said that he now notices lulls in trading around periods when a number of primary deals are being marketed at roadshows. That also reflects the fact that this is still a small market, with a limited number of large investors, so roadshows can take people out of the trading frame of mind.
Zurich-based specialist ILS and catastrophe bond investment manager Plenum Investments also noted the continued pressure on secondary marks, which the manager puts down to a spread widening trend as well as demand.
Plenum explained; “The reasons for the performance are: 1) the continuation of the spread widening on US hurricane positions and 2) the small demand for those bonds.”
This is a trend that Plenum expects to slow and reverse, the manager said; “we expect this trend to diminish and ultimately to reverse to allow for a stronger performance during the summer months and the remainder of the year.”
Plenum too noticed a lull in trading in the secondary market during April, particularly around the Easter holidays, again reflecting the fact that this is still not a huge and especially liquid secondary market.
“The Easter holiday as well as the large amount of issuances also had somewhat of a dampening effect on the secondary market activity,” Plenum said.
Investors in catastrophe bonds will be pleased that coupons have on average stabilised in 2015, compared to the year before. But this is also applying pressure on the lower yielding bonds that came through last year, as investors are not attracted to them.
Someone has to hold the bonds though and it will likely end up that they are leveraged for diversification or by the largest investors in the space. While smaller investors or the cat bond focused funds will continue to try to avoid them.