Q4 cat bond resurgence will push record pace into 2024: Aon’s Schultz
Cat bond issuance came roaring back to life in Q4 to meet or beat the record pace set in the first half and will continue unabated in a heavy 2024 deal pipeline as cedants stick to a newfound strategy of diversifying their reinsurance buys, Aon’s chief of ILS operations told Intelligent Insurer.
“The momentum has carried forward,” Paul Schultz, CEO of Aon Securities, said of the resumption of issuance in Q4 after a record H1. “We will be setting records for the year.”
But the record setting pace will carry well into 2024 as the current deal pipeline – “almost a new transaction every couple of days” - strains at the bottle’s neck. “We do see the momentum carrying over into 2024,” Schultz said.
A record for 2023 would mean Q4 issuance neighbourhood $2.8 billion in 144a-rule property cat bonds, nothing the market hasn’t done before. But Schultz sees more deals on hand than even the current red-hot and well-primed market should quickly absorb.
“The volume of deals in Q4 has been so high that we’ve advised some clients to move their transactions from Q4 into Q1,” Aon’s ILS guru said. “We are already building a Q1 pipeline.”
The cat bond market was already on a tear before the market snuggled into its traditional Q3 hiatus ahead of the hurricane season opener. Total issuance of the 144a-rule property cat bonds hit a 6M record at $9.7 billion, to add $3.6 billion or 10% to the market’s notional outstanding, Aon had noted. The first half had already made 2023 the fourth best year on record and was 78% of the way to 2021’s all-time high.
The tone of the market speaks to an improved pace. Late 2022 and Q1 2023 market may have struggled to digest Hurricane Ian and the macroeconomic uncertainties. “This year it is all about doing business - all about executing transactions; completely opposite from where we were 12 months ago.”
Confidence through the New Year renewals comes amid numerous confirming signs that deal flow is no opportunistic run for the money ahead of 1.1. Schultz sees instead a stable trend towards increasingly diversified reinsurance buying. The market motivator remains lessons from a “very challenging” 1.1.2023, not needs ahead of 1.1.2024.
“I think the overall theme: issuers continue to diversify their buying into the ILS markets,” Schultz said. Cedants are perfectly pleased to embrace new forms of capacity, wherever they appear. Of late, capital has selected cat bonds and ILWs. Collateralised reinsurance has yet to spark renewed investor interest and the segment can brag, at best, that outflows of freed capital have been only “organic and gradual”.
“We’ve seen a lot of insurers embrace that and take advantage of ILS capital.”
The profile of sponsors is convincing Schultz of the broader and more durable trend in the 2023 cat bond story. “We are certainly seeing new entrants into the cat bond space,” Schultz said, citing both first-timers and names returning to the market after breaks of even 10-15 years.
And the ostensible goals of the new programs speaks to a cedant pool thinking of longer-term market presence.
“Cedants are building ILS into their risk transfer programs, either first time issuers introducing a catastrophe bond component or existing issuers growing the size of the catastrophe bond representation in their scheme,” Schutlz said. “Buying is strategic rather than opportunistic.”
Pricing in deals to date in Q4 is “pretty much flat” from where the market left off mid-year after considerable spread tightening from the market post-Ian. Rising cedant demand has only managed to keep spreads from tightening further, Schultz suspects.
The other way of saying that: rising cedant demand is being matched by increased investor interest. Schultz and team are doing their deals on a three-pronged sourcing of increasing capital: existing ILS investors increasing allocations; investors returning to the space after a hiatus and some new names in the mix.
Some of the new investor pool tend to be “a bit more opportunistic” but the new investor slate “also includes new longer-term, like pension funds,” he noted.
Schultz brushes off concerns that ILS lost much of its relative glamour when interest rates reset in 2022 and the world no longer needed to hunt yield in desperation: earnings on collateral mitigated the outright impact and cat bonds retained stance as “a pretty interesting alternative.”
At the current juncture, Schultz likes the outlook for investor appetite in the segment, particularly amongst high-yield credit investors who may fear default rates on recession risks or cross-asset investors who may now be sufficiently wary of volatility in traditional asset classes to warm to a non-correlated asset class.
Net of all factors in the new high-interest rate environment, the relative value of cat bonds to other asset classes has been “holding the same value proposition that we were at the beginning of the year.”
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