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USAA’s ResRe cat bonds face payout as California wildfire losses bite


According to sources, U.S. primary military mutual insurer USAA is anticipating losses of between $387 million and $581 million from recent wildfires in northern California, a financial impact which raises the likelihood that some of the riskiest layers of the insurers aggregate Residential Re catastrophe bonds will now be triggered.

Artemis has been told that USAA estimates its losses from the Tubbs Fire in northern California as being in a range from $314 million to $471 million, while the Atlas Fire in the same region of the state is estimated to have caused a further $73 million to $110 million of losses to the insurer, leaving the overall range as $387 million to $581 million.

USAA has a number of tranches of its multi-peril Residential Re catastrophe bonds that are exposed to these wildfire events, but as a single event these losses wouldn’t come close to triggering any per-occurrence tranches, hence it is the aggregate reinsurance cat bonds that are most at risk.

Some of USAA’s aggregate Res Re cat bond tranches are already considered at-risk by the market due to the impacts of the recent hurricane events, but the size of the insurers wildfire losses means some level of payout is now considered likely.

Being aggregate in nature, these tranches will accumulate losses from qualifying catastrophe events that exceed a certain franchise deductible, working their way up towards a trigger or attachment point after which noteholders may face losses.

For some of the riskiest tranches of Residential Re cat bond notes, these wildfires alone could take the tranches over halfway toward their attachment points, so after factoring in hurricane losses, as well as losses from any other covered perils, it appears the risk to these tranches has risen considerably.

Take, for example, the one-year Class 10 tranche of notes from the most recent in-force cat bond sponsored by USAA, the Residential Reinsurance 2017 Ltd. (Series 2017-1). This $50 million zero-coupon tranche of notes is the riskiest outstanding from the insurer, had an initial expected loss of 14.06% and attached at $883 million.

This tranche of notes is now considered likely to face some losses following USAA’s losses from hurricanes and the wildfires alone, and if losses from other perils, such as convective and winter storms, run as expected during the remainder of the risk period this tranche could face exhaustion, our sources told us.

The next riskiest aggregate tranche is the Class 10 notes from USAA’s Residential Reinsurance 2014 Ltd. (Series 2014-1) transaction.

This $80 million zero-coupon tranche had an initial attachment point of $847m and an expected loss of 9.86%. Similar to the 2017 Class 10 notes, if the run-rate for USAA’s losses from all covered perils continues as would normally be expected there is a chance investors in this tranche face further losses.

The Class 10 tranches of USAA’s Residential Reinsurance 2016 Ltd. (Series 2016-1) and Residential Reinsurance 2015 Ltd. (Series 2015-1) cat bonds are also both aggregate and higher risk. However, for these to attach it is assumed that further losses throughout the year may need to be higher than would normally be expected under modelling.

Finally, our sources also said that there is a chance that USAA’s only cat bond that doesn’t use the Residential Re moniker, the Espada Reinsurance Limited (Series 2016-1) transaction, could also potentially be triggered should loss estimates rise or future losses hit the insurer at higher levels than would normally be anticipated.

So, as it stands, one tranche (the ResRe 2017-1 Class 10’s) is now expected to attach and face some level of losses, no matter how high catastrophe loss activity is through the rest of its risk period, while another (ResRe’s 2014-1 Class 10 tranche) could face some losses by the end of its risk period (how much dependent on how high above normal the insurers losses are).

Two more tranches are now considered at a slightly elevated risk (ResRe’s 2015-1 and 2016-1 Class 10’s), while Espada Re is also now considered a little riskier as well, by our sources.

We’re told that USAA’s estimate for losses from hurricane Harvey currently sits at $147 million, while its estimated range of losses for hurricane Irma has a mid-point of $316 million, totaling $463 million for the two hurricane losses that will qualify under the terms of all the above catastrophe bonds.

So add in these losses from the California wildfires (of which sources told us the aggregate loss mid-point is around $440m), which could be conservative as it is still early days in counting the financial impact from these events, as well as any other losses from severe convective storms that have accumulated throughout the year and it is easy to see that the Residential Re 2017-1 Class 10 notes are likely facing a loss, perhaps exhaustion.

After that tranche attaches, these losses will cascade down through the other cat bond layers, hitting the 2014-1 Class 10’s first and then should any other peril related losses hit USAA over the remainder of each risk period, dropping into the 2015-1 and 2016-1 notes to a degree.

At this stage all of this is preliminary and it could be some time before the full impact of losses to USAA from 2017 catastrophe events is clear, meaning investors may face a bit of a wait before they understand just how deeply these losses are going to hit its various catastrophe bonds.

It could be that just the one 2017-1 Class 10 tranche faces losses, perhaps the 2014-1 Class 10 notes as well. But should we see a severe thunderstorm loss or winterstorm that further erodes the aggregate retention, then a number of tranches could suddenly come into play, extending the potential for ILS investor payouts and USAA’s reinsurance recoveries from the capital markets.

Again, catastrophe bonds will prove their worth to sponsors as a form of reinsurance should USAA’s payout. Having now sponsored 30 transactions, the insurer is among the most experienced of sponsors and has cleverly designed its capital market-backed reinsurance coverage to respond to just this kind of year of disasters.

The two riskiest of these tranches, the 2017-1 and 2014-1 Class 10 notes have both been marked down significantly by cat bond broking desks, we’re told, on an expectation of facing losses from these catastrophe events, after the wildfire losses now push them ever closer to paying out.

For now, we’ve added the Residential Re 2017-1 Class 10 catastrophe bond tranche from USAA to our listing of cat bond payouts and defaults, where you can find details of all catastrophe bonds triggered and payouts made, since the market began.

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