Terror risk a “useful but complex diversifier for ILS funds” – IFTRIP

Terrorism insurance and reinsurance risks are seen by investors as a useful but complex diversification opportunity for their ILS funds, hot topics discussed at the annual IFTRIP conference suggested.

The International Forum of Terrorism Risk (Re)Insurance Pools (IFTRIP) annual conference was held in Brussels last week and insurance-linked securities (ILS) and capital markets support for the terrorism risk insurance market was discussed.

Leveraging the capital markets appetite for insurance related risks was a topic for discussion on the agenda, with a talk exploring the potential for connecting the capital markets to terrorism reinsurance risk.

Florian Steiger, Cat Bond Strategy Lead at specialist Zurich headquartered ILS fund manager Twelve Capital, discussed what is required for terror risk to become a larger component of ILS fund portfolios.

To date there has been a single terrorism risk catastrophe bond transaction, Pool Re’s groundbreaking Baltic PCC cat bond that was issued earlier this year.

Outside of that, terrorism risks only really exist in very specialist private ILS transactions, typically those transacted as a collateralised reinsurance arrangement, as well as in some mortality ILS transactions which cover losses due to significant mortality events including terror attacks.

As a result, terrorism risk is a niche of the ILS market and one that the majority of ILS fund managers hold very little of in their portfolios.

During his talk at the conference, Steiger explained that terrorism risks could potentially become as much as 2-4% of ILS fund portfolios, as investors and managers continue to look to diversify away from the more typical natural catastrophe risks exposure that the ILS market is so well-known for.

In order to support more issuance of terrorism cat bonds, Steiger said that advanced risk modelling and a better understanding of the risk are the most important next steps that the market needs to take, in order to get ILS investors truly comfortable with assuming more terrorism insurance risk.

So as a useful diversifier terror risk is certainly appealing to certain types of ILS investors and funds, but its complexity and the lack of robust third-party models makes its assumption more of a challenge at this time.

But as technology advances and risk models improve, we are likely to see increasing interest from ILS markets, as terrorism risk fits the mould as an event based risk of the kind ILS investors appreciate.

As we explained recently, efforts continue to establish ways to leverage the capital markets to take on more terrorism insurance exposure in the United States, with Treasury still considering routes to transfer risk to private markets including catastrophe bonds.