Swiss Re Insurance-Linked Fund Management

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ResRe 2015-1 pricing reflects investor demand for higher yield cat bonds


The price guidance for U.S. military mutual insurer USAA’s $150m Residential Reinsurance 2015 Ltd. (Series 2015-1) catastrophe bond has been fixed and it clearly demonstrates the strong investor demand for higher yielding cat bond investment opportunities.

When the Residential Re 2015-1 cat bond was launched earlier this month, we noted that one tranche features a rare opportunity for investors to access a higher return with a coupon of over 10%, making this deal an interesting one to watch.

With reports suggesting that investors are prioritising higher yielding cat bonds in the secondary market, leaving some lower yielding bonds to languish with declining prices, it seems natural that any higher yielding primary cat bond opportunity should be able to find demand that helps it achieve an attractive price for the sponsor.

The average coupon of cat bonds issued in 2015 so far is just 4.89%, following on from 2014’s average coupon of just 4.56%. That means that ILS investors and fund managers would love to see more higher yielding opportunities, guaranteeing that when they do come to market they will prove popular.

With Residential Re 2015-1 USAA is seeking a $150m source of fully-collateralized reinsurance against losses from multiple perils in the U.S on an annual aggregate and indemnity trigger basis. Two tranches of notes are being offered to investors, with one much riskier than the other.

The size of the offering has not changed, according to the latest updates on the deal that Artemis has sourced. The riskier Class 10 tranche of notes remains at $50m, while the less risky Class 11 notes remain sized at $100m.

The Class 10 notes, the riskier of the two tranches, will attach at $959m of losses to USAA up to an exhaustion point of $1.134 billion. These notes have an attachment probability of 8.33%, an exhaustion probability of 4.63% and an expected loss of 6.2% base, 7.28% sensitivity case.

The Class 10 notes launched with price guidance of 10.75% to 11.75%, which showed USAA’s ambitions to secure the cover at a very low multiple. Now, Artemis understands that the price guidance has been fixed at 11%, near the lower end of that range.

So if final pricing is set at an 11% coupon, the Class 10 notes will have a multiple of 1.77 times the base expected loss or 1.51 times the sensitivity case. That’s a particularly low multiple, which clearly reflects the appetite of investors to access higher yielding cat bond notes and their willingness to accept a lower multiple payment in return.

The Class 11 notes attach at $1.134 billion up to exhaustion at $1.791 billion. They have an attachment probability of 4.63%, an exhaustion probability of 0.89% and an expected loss of 2.16% base, 2.5% sensitivity case.

Class 11 launched with price guidance of 5.5% to 6% and interestingly these notes have had the guidance fixed at the top end of guidance, at 6%. That suggests a multiple of 2.8x’s the base expected loss, or 2.4x the sensitivity case, which is much more aligned with other issuance this year (the average multiple in 2015 is 2.59x).

Finally, if this deal completes at the current price guidance, which seems likely, the Class 10 notes will be pricing at a level half that of an equivalent Class 7 tranche from USAA’s Residential Reinsurance 2012 Ltd. (Series 2012-1) cat bond.

That tranche has almost exactly the same attachment and expected loss as the 2015-1 Class 10 notes, but it priced with a coupon of 22% (with a multiple of 3.55 times the base EL) when it launched three years ago.

So prices have halved over three years while USAA has also expanded the coverage it receives. The 2012-1 ResRe only covered hurricanes, instead of all tropical cyclones like the 2015-1 deal and USAA has also added the volcanic eruption and meteorite impact protection, while still securing a halving in coupon.

What a difference three years makes in the catastrophe bond market. What this clearly demonstrates is that any sponsors considering issuing a higher risk/return catastrophe bond should consider this favourable pricing and perhaps get their deals to market now.

USAA’s Residential Reinsurance 2015 Ltd. (Series 2015-1) catastrophe bond is expected to reach final pricing this week, likely at these fixed levels and complete by the end of the month. You can read all about this and every other catastrophe bond in the Artemis Catastrophe Bond Deal Directory.

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