jeff-mohrenweiser_fitch-ratings
Jeff Mohrenweiser, senior director and the lead on ILS globally, Fitch Ratings
28 October 2018 Alternative Risk Transfer

ILS markets will learn and evolve, says Fitch

The ILS markets will evolve as a result of lessons learned in the past 12 months, gaining sophistication and depth in the process, says Jeff Mohrenweiser of Fitch Ratings.

Market growth may be facilitated via government entities
exploring the potential of this form of risk transfer.The insurance-linked securities (ILS) markets continue to grow despite 2017 cat losses that affected performance of several securities, according to Jeff Mohrenweiser, senior director and the lead analyst on global ILS at Fitch Ratings.

Mohrenweiser said that some of the challenges facing the market in the past 12 months will facilitate further development as a more sophisticated landscape emerges, characterised by more precise risk selection and fine-tuning of deal structures as funds increasingly look to set themselves apart from a growing volume of competitors.

Meanwhile, he believes, more cedants will look to leverage this form of capacity.

“We are seeing the market evolve in a positive fashion,” he said. “Many lessons were learned from the large losses in 2017. The ILS market has performed well and will challenge traditional markets to sharpen their pencils to assume risk and structure coverage with competitive terms and prices.”

In the aftermath of the 2017 cat losses, the general belief in the industry was that the ILS market had met its biggest test largely with flying colours, as investors reloaded quickly and did not shirk in meeting the large loss estimates coming through.

Concerns regarding disputes and their resolution have not been material amid recent claim-generating events in ILS.

That sentiment has, however, been muted somewhat as rate increases discussed with investors did not materialise and the losses first estimated in relation to US hurricanes proved inadequate in several instances. Many ILS funds have been forced to increase these estimates and boost reserves in 2018.

Mohrenweiser agrees that differences have emerged among ILS managers.

“Yes, the alternative markets passed the test but you need to look under the hood to see qualitative distinctions between ILS funds,” he said.

“Just like any asset manager, you cannot treat them all the same; they need benchmarks, and risk thresholds, and dialogue with investors.

“Based on performance differences, I think a flight to quality is now inevitable. You will see some funds close up shop because they have been unable to sustain investors or deploy capital they have at promised returns.

“A new landscape will emerge that is more nuanced than before, but this will lead to greater choice and diversification options for investors.”

He added that investors find it easier to take a big hit, as long as it is within their risk parameters, than face uncertainty and, potentially, trapped capital as losses are calculated. “Investors hate it when their funds are illiquid; they would rather take 75 cents on the dollar now than wait a year.”

More deals

Commenting on true ILS deals or cat bonds, Mohrenweiser said he expects this market to evolve with more corporations sponsoring deals as they look to supplement the insurance coverage available in the traditional markets.

He noted that Californian utility company Pacific Gas and Electric tapped the market for the first time to hedge wildfire risk, and that health insurer Kaiser Permanente renewed protection against California earthquake risk through a transformer group.

“Recent activity is indicative of company efforts to supplement what is available in traditional insurance markets with this additional coverage,” Mohrenweiser said.

“Sponsors also seem to like the fact that parametric deals based on objective event loss measures distribute loss payments quickly, allowing for faster response and recovery.”

Mohrenweiser also expects new risks coming to the market, noting that mortgage insurance risk is being transferred in structured transactions, and he envisions corporations’ cyber risk being transferred into the capital markets using an ILS structure in the near future.

Market growth may be facilitated via government entities exploring the potential of this form of risk transfer, eg, the World Bank for pandemic risk and the National Flood Insurance Plan for flood risk following losses due to Hurricane Harvey in 2017.

“With bigger losses coming through and an uninsured exposure that may ultimately flow to government coffers and taxpayers, there are benefits to getting in front of the risk using private market capital,” Mohrenweiser said.

He added that the use of alternative capital will increasingly permeate the risk management strategy of smaller insurers.

Several intermediaries have set up platforms to facilitate the issuance of smaller ILS deals for this purpose.

“It will become the norm for these players—using traditional and alternative reinsurance capital to mitigate large loss exposures,” he concluded.

Jeff Mohrenweiser is a senior director and the lead on ILS globally at Fitch Ratings. He can be contacted at: jeff.mohrenweiser@fitchratings.com

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