The increase in primary catastrophe bond market issuance in April, helped by almost $1 billion of new bonds issued and a pipeline containing more than $2 billion by the end of the month, helped to balance supply and demand in the secondary market.
Supply and demand for secondary cat bond positions has been unbalanced for some time, with primary issuance not sufficient to really force ILS fund managers to rebalance portfolios in a concerted way. With some ILS managers having taken new inflows of capital in 2014 there has been new capital to deploy which also means managers have not been pushed to free up capital by trading secondary positions.
In April that all changes as almost $1 billion of new catastrophe bond issuance was completed during the month. Meanwhile another three new cat bonds were launched towards the end of April which would eventually result in another $2.45 billion of new risk capital coming to market.
The brick issuance gave ILS fund managers a chance to deploy any new or excess capital into the market while also creating a strong demand for portfolio rebalancing of secondary marks as well. This resulted in much more brisk secondary market demand than has been seen for some months.
Craig Bonder, Managing Director and Head of ILS Trading at AK Capital, commented; “It was a very active month of April for the Catastrophe Bond markets. After much discussions and hopes for a strong pipeline the new issue spigot truly has opened these last few weeks. Four deals totaling over $900mm settled in April and this was sandwiched between over $1.3 billion that settled in March and over $2.2 billion already in the works for May.”
The result of this strong primary issuance and investors appetite to support the new deals was strong secondary trading volumes. Bonder explained; “The ILS market built up more and more demand for risk with the hopes issuance would arrive and indeed it seems it now has with newer issuers and larger and larger deals being brought to market. This naturally affected secondary markets as portfolio rebalancing came more in vogue this month. Cash balances that had been building are now able to be put to work and healthy two way markets on many names have arrived.”
Swiss-based ILS investment manager Plenum Investments also noticed the uptick in secondary demand and trading volumes and noted the more balanced secondary supply demand equation, saying; “The strong issuance pipeline also triggered substantial secondary market activity as ILS investors were rebalancing their portfolios. With the possibility to deploy the liquidity which has been building up, supply and demand in the secondary market became more balanced which resulted in higher trading volumes.”
The secondary cat bond price environment seems to have been tempered a little by the recent strong issuance. Most of this year has been characterised by strong secondary price rises, with new cat bonds trading above par almost immediately on settlement due to demand. Both Plenum Investments and Bonder noted a change in April.
Plenum said; “Prices remain strong but the price increase has slowed somewhat. Still, newly issued deals continue to trade above par, despite the fact that we are moving closer to the US hurricane season.”
To which Bonder agreed, commenting; “It should be noted that while prices still remained strong overall and new issue deals were still trading above par post issuance the velocity of secondary price increases seemed to have slowed.”
Another $550m+ of new catastrophe bonds has begun marketing in the last week, most of which will likely upsize to some degree, helping primary issuance remain brisk. This should help to keep some pressure on secondary marks in May as investors and ILS and cat bond fund managers continue to absorb new deals and rebalance their portfolios as a result.
This may help to keep secondary market price rises a little less steep as we approach the start of hurricane season. However, if issuance dries up during the season, as has been seen in previous years, the pressure may remain and secondary marks may not decline as much as would perhaps be expected when U.S. wind is on-risk.
Of course, if we actually see a hurricane threatening the U.S. coastline in the 2014 season we could witness some more dramatic secondary cat bond price softening. That could be quite interesting for some of the ILS fund managers, and for secondary trading desks, as if real liquidity emerges when an event threatens the demand for cat bond trading could be very high in a market dominated by hurricane risk.
Plenum commented on the outlook for the coming weeks as we approach the hurricane season; “New issuances seem to have absorbed most of the excess capacity in the market, which reduces the pressure on CAT bond spreads. With the hurricane season looming ahead of us, spreads should normally widen and we anticipate a further slowdown or even reversal of the mark to market movements in the weeks ahead.”