Risk modelling agency RMS’s new US wind model triggered downgrades to many catastrophe bonds. Peter Nakada of RMS Risk Markets examines the logic behind this and how investors have reacted to the situation.
When RMS revealed its 2011 US hurricane model release, Trading Risk’s headline trumpeted “Hurricane RMS” for its impact on the market. Before long, the new hurricane model, like a pop star diva, was known by just one name—v11.
New data and science, and vast increases in computational power, enabled RMS to improve the view of hurricane risk dramatically. With this enhanced view of risk also came an increase in the level of risk. For the industry overall, losses at the 100-year return period increased by around 50 percent. With the way the insurance-linked securities (ILS) market views risk, the changes seen were even larger, with expected loss (EL) on average doubling.
Insurance, reinsurance and ILS market participants braced for a reaction to this dramatic new view of risk. Would rates in the traditional reinsurance market harden significantly? Would catastrophe (cat) bond prices for hurricane bonds plummet? Would bonds originally modelled by RMS react differently from those modelled by AIR or EQECAT?
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Catastrophe bonds, Cat bonds, Rating agencies, Alternative risk transfer