Winter storm Uri an aggregate threat, but commercial loss may protect ILS: Twelve Capital

Winter storm Uri is destined to become a record insurance and reinsurance market loss for a winter weather event in the United States and while the impacts may be in the double-digit billions of dollars, the ILS market may be protected from too significant a share.

A number of factors could play into this, such as the commercial nature of the loss, according to specialist insurance-linked securities (ILS) and reinsurance focused investment fund manager Twelve Capital.

As we explained last week, catastrophe risk modelling specialist Karen Clark & Company updated its estimate for insurance and reinsurance market losses from the winter storm event in the United States to $18 billion.

Meanwhile, rating agency A.M. Best said that the catastrophe losses suffered in Texas from the US winter storm may reach record levels, which suggests that the estimates of significant insurance and reinsurance market losses are likely to come true.

As we explained on Monday of this week, for the insurance-linked securities (ILS) market and collateralized reinsurance structures in particular, some impact from a catastrophe event of this magnitude is to be expected.

There could be some occurrence reinsurance layers that trigger, particularly for smaller to mid-sized and regional insurance carriers, which if there is any collateralized participation on could see some losses flowing to ILS funds.

However, the immediate and most noticeable concerns for ILS inevstors and ILS fund managers may be through private ILS quota shares, reinsurance sidecars and aggregate reinsurance or retrocession agreements.

While many aggregate layers of reinsurance or retro start their annual risk periods at January 1st or the mid-year, there are others that run to the second quarter (such as major US carriers like Allstate) and it is those where the losses from this event may be most immediately of concern, aggregating on top of 10 or more months of other catastrophes and severe weather events.

The aggregate exposure will also include catastrophe bonds, as there are a number of exposed aggregate cat bonds, some indemnity and some industry loss based, which potentially could see their deductibles eroded by losses from winter storm Uri.

Making the ILS market’s exposure to this catastrophe event less clear-cut is the commercial focus of the losses.

Risk modeller KCC had said that the majority of claims from the winter storm were likely to fall to commercial lines of business, with a significant business interruption element also confirmed by AM Best.

ILS fund manager Twelve Capital explained why that may matter, especially for catastrophe bonds, “The majority of losses are expected to be in the commercial sector, which is an important distinction, since the majority of Cat Bonds are more exposed to losses from personal lines rather than commercial lines.”

This is also true for many collateralized reinsurance writers, as a number of ILS fund managers are largely homeowners insurer focused, rather than commercial, believing the catastrophe losses in homeowners property risks to be more easily definable, especially without the business interruption element.

Some catastrophe bonds do have commercial property exposure, largely from the major US nationwide carriers and on the reinsurance side, rather than industry loss based aggregate retro cat bonds.

Twelve Capital said that it “does not anticipate that this event will impact positions in its portfolios on a standalone basis,” suggesting it is not expecting winter storm Uri to default any ILS positions directly.

Rather the chance of aggregate deductible erosion and therefore some attritional losses to aggregate positions in ILS portfolios is seen as the more likely source of loss by the ILS manager.

“Following a large number of events in 2020, in particular the hurricanes, tornadoes and wildfires in the United States, more junior aggregate covers are exposed to further erosion of their deductible for the active risk period, which may lead to the ultimate impairment of these positions,” Twelve Capital said.

But the manager also added that, from its own ILS fund’s point of view, portfolios are, “either underweight or zeroweight in such positions as compared to the market and hence a material impact to its portfolios is not excepted at this time.”

Many ILS fund managers had down-weighted aggregate positions within their portfolios over the last year, meaning the sectors exposure to winter storm Uri may now be lower than it would have been had the storm struck in 2018 or 2019.

Which also means a lot of the aggregate exposure may be in multi-year reinsurance or retrocession instruments, including catastrophe bonds, which managers have bought and held in prior years.

Attritional claims are also likely to hit some ILS funds and investors through some reinsurance sidecars and quota shares, but there are unlikely to be severe in nature, at least as far as the current situation suggests.

Also read:

– Winter storm to drive record losses, reevaluation of cat budgets: AM Best.

– KCC raises US winter storm insurance industry loss estimate to $18bn.