Cat bond spreads show higher rewards claims RMS

Return relative to risk values for catastrophe bonds at current prices are actually higher in 2015 than they were last year, despite market commentary suggesting that market prices have bottomed out, according to new research by modelling firm Risk Management Solutions (RMS).

According to RMS when expected losses for the market portfolio are re-calculated to consider the time-value of money, and adjusted to account for seasonal variations, spreads were higher in 2015 than in 2014. Despite the prevailing commentary and accounting for underlying market prices, the catastrophe bond market is providing a higher return to investors today than it did a year ago.

“Primary pricing of individual cat bonds is based largely on the expected losses available from ILS portfolio management platforms,” said Jin Shah, director, capital markets, at RMS, “but true risk pricing can be calculated only by considering all dimensions of loss, including seasonal variations and the time-value of money. Only by having all bonds evaluated in one risk platform can changes in risk premium over time be better evaluated to identify new trends in the market.”

In order to get this analysis RMS applied the same model across more than 130 issuances in the secondary markets. The analysis showed, for example, that on September 30, 2014, the difference between bond spreads and the adjusted expected loss was 2.22 percent, compared with 2.52 percent on the same day this year.

“The pricing of cat bonds at the end of the third quarter of 2015 was 30 basis points higher than it was on the same date in in 2014, relative to the risk and adjusted for the time-value of money,” Shah said, “but only accurate risk and return modelling reveals the true rewards.”