Texas Windstorm Insurance Association to discuss cat bonds (again)

For the third year running, the Texas Windstorm Insurance Association (TWIA) is actively considering whether a catastrophe bond should make up part of the windstorm insurer of last resorts reinsurance and risk transfer arrangements for 2014.

Update 22nd April 2014: The TWIA Actuarial & Underwriting Committee approved the plan to propose catastrophe bonds to the TWIA board for 2014. More details in this article.

TWIA first looked seriously at catastrophe bonds back in 2012, however the plan was rejected as the Texas Department of Insurance needed more time to thoroughly assess the proposals for using catastrophe bonds as alternatives or complements to reinsurance. It was also felt in 2012 that the cost of sponsoring its first catastrophe bond may be prohibitive for TWIA.

The cat bond discussion came back on the agenda in 2013 with a proposal for a $500m catastrophe bond rejected as it did not meet TWIA’s immediate need of improving its claims paying capacity level, rather than a cat bond purely for risk transfer. Broker Guy Carpenter also pushed the idea of cat bonds at TWIA in 2013, saying that costs were 10% to 20% cheaper than in 2012, but again cat bond proposals were rejected.

In 2013 TWIA said it was not convinced it was ready for a multi-year approach to its reinsurance cover and also that it believed that the effort required to get a cat bond to market could be more than the association could cope with. Another concern TWIA had in 2013 was regarding the lack of a reinstatement option for collateralized or cat bond capacity, although it noted that pricing could overcome that particular concern.

The legislative agenda in 2013 also put a spanner in the cat bond works for TWIA, with the timing of discussions relating to the reform of TWIA making its reinsurance renewal discussions more difficult than expected.

After two years where catastrophe bonds got thoroughly discussed at TWIA it is encouraging to see them back on the agenda of a forthcoming TWIA actuarial committee meeting. The actuarial committee is to review and decide on actions regarding reinsurance, including the possible issuance of catastrophe bonds, for the 2014 hurricane season at the meeting this week. Recommendations will then be developed to send to the TWIA board.

Could 2014 be the year we see a TWIA sponsored catastrophe bond? Market conditions could not be any better, with catastrophe bond rates at all time lows and every recent cat bond seeing strong investor demand helping them to increase in size while pricing has tightened.

Cat bond pricing is now perhaps more than 40% cheaper than it was before the 2012 hurricane season, so surely the pricing argument cannot be the factor that stops a 2014 TWIA catastrophe bond issuance. Of course the pricing is also significantly lower on traditional reinsurance or other fully-collateralized reinsurance options as well, so the question will be whether the multi-year nature of a cat bond can be appealing enough to outweigh any benefits of reinstatements or any relaxation of terms in the traditional reinsurance market.

The cost of issuance is also lower and the frictional costs to TWIA itself, in terms of time and resources of its staff, are likely lower as well as its brokers have already put significant time into researching cat bonds on its behalf in the last two years. However, with the traditional reinsurance market keen to hold onto its share of reinsurance programs, we would imagine that traditional reinsurers will do all they can to hold onto TWIA’s risk.

Legislation is the unknown factor here, which could prevent TWIA from following through on any plans to issue a cat bond. The legislative agenda is a little clearer in 2014, but there are still hoops to jump through for TWIA staff to get a cat bond issue approved and into the market.

The fact remains that 2014 may be the best opportunity that TWIA has to take its first step into the capital markets with a catastrophe bond issue though. The market conditions and investor appetite will make a cat bond an attractive proposition to TWIA, both in terms of the pricing available and the more relaxed terms and broader cover now available in the cat bond market compared to recent years.

Perhaps it will be third time lucky for a TWIA catastrophe bond in 2014? We will let you know.