Increasing access to ILS

How has the insurance–linked securities (ILS) market evolved in recent months?

A key trend is that we have seen a broadening in terms and conditions. As an example, the Castle Key transaction comes to mind, as the definition of ultimate net loss (UNL) was broader than in prior transactions. Also, the terms and conditions were almost identical to the terms and conditions in the traditional reinsurance market, which is significant. Over the years we’ve been narrowing the gap between the two markets, and this is the first time in a long time that we’ve seen such similarities in a complex structure.

Based on our forecast for the amount of new capital that is going to enter the market in the medium term, there is also going to be a need for broadening of coverages—moving from property cat to casualty and liability to ensure that we can supply the demand of this new capital.

Has investor demand slowed as spreads have decreased?

There is still a robust level of capital looking to enter the marketplace, and investors are accepting of the interest spreads available. While they might prefer the spreads to be higher, we haven’t seen investors pull back from the market. There could be still more rate movement to come if we have a light catastrophe year, but overall, capital levels are still very healthy.

You predicted that $100 billion of new alternative capacity will enter the collateralised market over the next five years. Is the sector on target to meet predictions?

My intuition is that we’re slightly ahead of that deployment. I say that because seven new sponsors have come to market in the first half of the year and we’ve seen a couple of large deals, so the issuance volume is high. There are also meaningful new deals in the pipeline across the spectrum of alternative capacity, of which ILS is only a portion.

The Aozora Re deal represented the first yen transaction. Are we likely to see more non-US dollar transactions entering the market?

The two currencies that have been the most prevalent have been US dollars and euros. It’s likely that we’ll see sterling, and will continue to see yen. By buying the protection in a local currency, the currency risk can be taken out of the transaction, making it more efficient for the client. The easier we can make it for clients to buy on a local basis, the more willing they are to utilise this type of market.

What trends are we seeing in the secondary trading market?

Historical trends reveal that activity in the secondary market is generally subdued towards the middle of the year, and 2014 is no different. In the years with strong levels of primary issuance, secondary volume generally tends to be lighter.

However, from a secondary trading perspective, we expect the second half of the year to be very active as the level of capital being allocated to ILS is larger than the pipeline of transactions coming to market.

Tell me a little about CATstream and how the platform is helping shape the market for smaller participants?

There are many mid- to smaller-sized clients for whom a traditional catastrophe bond solution just isn’t applicable—either they don’t have large enough capacity programmes, or they don’t need the peak peril capacity generally associated with the ILS market, which requires around $75 million of issuance to make the economics efficient. With this in mind—and at the demand of our clients—we felt that now was the time to introduce a platform that would allow deals as small as $20 million to be issued and still be capital- and cost-efficient.

From the investor side, the introduction of small- to mid-sized sponsors means that new perils and new clients will enter the market, which is helpful from a diversification perspective.

With CATstream specifically, we have made an effort to standardise documents, which means that our clients do not need to negotiate every one of these documents along the way.

I believe that certain other firms have developed a ‘cat bond lite’ offering, but we have focused instead on making available a standard cat bond—and the comprehensive and proven coverage it offers—to a broader range of clients by improving its accessibility.

Clients still have to decide whether CATstream is appropriate for their requirements, but we predict that before year-end we will have several transactions issued via this platform, with more coming to market in 2015.