The month of July saw the recent higher activity levels in the secondary market for catastrophe bonds persist, as investors further rebalance portfolios in order to take on new cat bond issues and some investors continued to take advantage of recent price rises to capitalise on mark-to-market gains.
Recent months have seen the high levels of primary cat bond issuance spill over into increased liquidity in the secondary cat bond market. It’s a trend which has been a feature of almost all of the second quarter of 2013, given the high levels of catastrophe bond issuance, but which also continued into Q3 as cat bond issuance didn’t slow down as quickly as usual.
Typically July is a relatively quiet month for issuance of new catastrophe bonds, as the majority of sponsors want their coverage in place in time for the U.S. hurricane season. It also tends to feature diversifying deals with less focus on U.S. wind risk as the hurricane season has officially started by then.
This year however we saw 6 new transactions come to market in July, bringing $1 billion of new risk capital to market for investors. Compare that to recent years, we saw 3 deals in 2012 and 2011, 1 in 2010 and 2 in 2009, largely diversifiers. Of the six new cat bonds in July 2012, five of them featured U.S. hurricane or named storm risk, which seems to be a sign of demand in the market but also of maturity among investors now more willing to take on U.S. wind risk during the hurricane season.
So, with $1 billion of new cat bond risk capital available many investors found themselves needing to rebalance their portfolios to maintain diversity or to make room allowing them to allocate capital to these new deals. At the same time some investors continued to sell cat bond positions where they have seen good mark-to-market gains on prices, allowing them to free up capital in return for a profit.
Both these factors also made more opportunities available in the secondary cat bond market for new investors or investors who find it more difficult to access the new cat bond transactions, giving them a welcome opportunity to participate in the market more freely.
Swiss based ILS investment manager Plenum Investments said; “We have seen a solid amount of secondary market trades being done during the month. This strong activity was caused by the robust pipeline of new issue deals where investors saw value in offering bonds either as opportunistic trades or in order to rebalance their portfolios or make room for new deals.”
The high volumes of trading gave the secondary cat bond and ILS trading desks a busy month as well. These desks have seen good volumes of trades in 2013, with the additional capital that has flowed into the space having to be put to work although the unseasonal price rises we saw earlier this year made the trading environment a little different to expectations perhaps.
Craig Bonder, Managing Director and Head of ILS Trading at AK Capital, told us that the high volumes of secondary cat bond trading helped his desk have its busiest month of the year so far. “Unusually high primary cat bond issuance for July helped boost secondary trading as well, as investors were able to successfully rebalance portfolios and potentially invest cash that was more difficult to put to work earlier in the year. The higher than expected activity pleasingly helped us to achieve our busiest month of the year.”
For ILS funds with large allocations to cat bonds, as well as for any pure catastrophe bond investment funds, secondary market conditions have not led to massive gains in July. Small gains appear to be the trend in July for those that have already reported returns. Plenum for example returned 0.15% on its USD class of its cat bond fund and saw some further widening of spreads.
On secondary cat bond market pricing trends in July, Plenum commented; “US hurricane only bonds and Japan typhoon bonds remained flat whereas the other risk classes ended slightly negative for the month.”
Expectations are that as we enter the peak of the U.S. hurricane season we will see spread tightening begin to kick in on U.S. hurricane exposed positions which should help these funds obtain higher returns over the next few months.