1 July 2010 Alternative Risk Transfer

Optimism for ILS despite mixed signals

With 2009 having proved an impressive year for insurance-linked securities (ILS) issuance, industry experts are predicting the good run to continue throughout 2010.

Leading US insurer State Farm’s latest catastrophe bond with Merna Reinsurance II gained attention when it was completed at a size of $350 million, a fraction of the $1.2 billion paid in the original deal, which is due to mature this year.

The bond was initially marketed at $250 million and was estimated to reach between $400 and $700 million. However, despite State Farm’s smaller cat bond, the market is expected to bloom.

“The ILS market is back to its normal growth rate,” said Henry Kus from Traymar Capital. “We are three-quarters of the way to where we were at the peak in 2007.”

Robert Stone, director of RiskMarkets, a dedicated ILS team within Risk Management Solutions (RMS), agrees that the market is back on form. “We have seen a growing appetite for catastrophe bonds as spreads have returned to pre-credit crunch levels and the cost of issuing has dropped by 30 to 40 percent,” he said.

“More companies have dipped their toes back in the water after a slow start in 2009, and we have been engaged to provide expert risk analysis for a broad variety of deals, including new and innovative transactions,” he added.

While the second quarter of the year is traditionally the most active, as companies seek coverage before the start of the hurricane season, favourable pricing in the second half of 2009 led more companies to choose ILS as an alternative to reinsurance before the January 1 renewals.

According to RMS, approximately $5 billion of bonds are due to expire in 2010, with between 50 and 80 percent yet to be renewed.

“With favourable pricing and ILS attracting the attention of a growing number of investors, market conditions are ripe for companies to reissue and replace the expiring bonds,” said Peter Nakada, managing director of RiskMarkets.

Brian Gray, Swiss Re’s chief underwriting officer, said: “The ILS market gained considerable momentum in 2009. More conservative collateral structures, price convergence with the reinsurance market and the underlying value of diversification should further accelerate the ILS market in 2010.”

Risk Management Solutions will model the Merna Re II bond, which covers losses resulting from earthquakes, and will offer coverage to Alabama, Arkansas, Illinois, Indiana, Kentucky, Louisiana, Michigan, Mississippi, Missouri, Ohio, Tennessee and Wisconsin. The bond was given a ‘BB+’ rating by Standard & Poor’s.

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