Swiss Re Insurance-Linked Fund Management

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Secondary market cat bond & ILS prices rebound (somewhat) in July


The secondary market in catastrophe bonds and insurance-linked securities (ILS) saw prices rebound more strongly in July, after a couple of months of slower pricing movements at trading desks.

After May ended up seeing negative pricing movements on secondary catastrophe bonds and ILS, then June saw a very slight recovery for some marks, July has seen a much stronger rebound in pricing, as season effects began to make themselves felt in the latter weeks of the month.

Supply of new catastrophe bonds remained slow in July, with just two additions to our Deal Directory adding only $37m to our issuance total for the year. As a result investors continued to take advantage of the lull in the market to adjust portfolios, ensuring a balanced mix of perils and risks is in place for the peak of the U.S. wind season.

The passing of the first month of the U.S. hurricane season for no impactful storms and forecasts continuing to predict a below-average 2014 hurricane season, contributed to a slow uptick in pricing during the month.

Craig Bonder, Managing Director and Head of ILS Trading at AK Capital, explained; “July saw a strong month of performance for catastrophe bonds. Mild weather patterns, limited new issuance, and a month of wind-season risk passing usually produces higher prices in the secondary markets and this month was no different.”

The month saw good trading activity, particularly in the first three weeks before market holidays began. Investors sought out positions to aid their portfolio diversification, which is no real surprise as many ILS funds continue to absorb the high issuance seen during Q2.

“As accounts engaged in portfolio re-balancing and putting some excess cash to work we saw prices rise as trades were consummated,” commented Bonder on the experience at his trading desk.

Looking ahead, Bonder expects prices to continue their rise as long as the U.S. hurricane season remains benign and no other major losses threaten the market.

“It seems the drop in prices we saw in May and June was short-lived for now and we could see a gradual grind higher in prices if the season remains mild,” Bonder said.

Where that will leave secondary cat bond and ILS prices later this year is anyone’s guess. Secondary cat bonds remain largely priced above par, which still poses challenges for those looking at the secondary market as a route to enter the space. Buying bonds at above par prices effectively reduces the yield to maturity, meaning new ILS fund managers with cat bond mandates, or pension funds seeking to invest directly, need to buy strategically looking to bonds which provide the best absolute yields.

Not everybody’s experience of the secondary market is the same at the moment. There is often a lag in terms of reporting mark-to-market price changes at ILS funds, which can make comparing their experience with that of a trading desk, such as AK Capital difficult.

In July, Swiss based specialist ILS investment manager Plenum Investments noted that it saw positive performance in the last two weeks of July, likely as some of the seasonality began to feed through into its valuations. Plenum said in its update that this; “Indicates that the seasonal price cycle is about to favorably turn which should lead to mark to market gains in the fund as the hurricane season progresses.”

ILS funds and investors should hope to see better performance in the next couple of months as seasonality pushes pricing up and seasonal effects on premiums kick-in. It will be interesting to see what will happen to secondary catastrophe bond pricing later this year if the rise continues. How high could some prices be come December and what would that mean for potential buyers?

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