Recent cat losses could make ILS collateral more attractive
In the wake of recent US nat cat losses, the perceived value of insurance-linked securities (ILS) collateral over a rated “promise to pay” model will rise if reinsurers have failed to use modelling and retrocession to better manage their tail risks, according to Willis Towers Watson’s Q3 ILS market update.
At the same time, it notes that US nat cat losses will enable the market to see how the different flavours of ILS perform with respect to different market segments. In particular, it will be possible to see how trapped capital impacts retro market January 1 renewals. Trapped capital refers to collateral not returned to the investor immediately while the cedant determines whether a loss has occurred. If investors cannot access new money to replace trapped collateral, they cannot trade forward as effectively.
“We are still early in loss development and 2017 is not even over, so more catastrophes might still occur,” the report notes.
“Thus far, as a whole, ILS investors and traditional reinsurers have performed well, supporting insurers as insurers in return do their job to serve policyholders.
“The anticipated reduction in the length and severity of market hardening because of ILS will benefit policyholders who need stable and affordable protection.”
In the third quarter of 2017 $460 million of non-life catastrophe bond capacity was issued through two cat bonds. Sponsored by AmTrust, the first issuance of the quarter was Fortius Re II 2017-1. This is the second ILS offering and the first fully distributed ILS offering sponsored by AmTrust.
The second transaction of the quarter was sponsored by the government of Mexico, which secured $360 million of parametric cover on an occurrence basis. This is the fourth time the government of Mexico has sponsored a cat bond, after deals in 2006, 2009 and 2012.
Interviewed for the Willis Towers Watson report, John Seo, co-founder and managing director of Fermat Capital, observed that the scale of uninsured economic loss not only in Mexico and the Caribbean but also in the US from flood represents an opportunity for ILS to be part of the solution to closing the “disaster gap,” especially with respect to US flood and earthquake.
“Efficient capital at massive scale and sound cat modelling are required to close these disaster gaps,” Seo said. “By tapping the global capital markets, ILS tick the first box. I believe the second box is ticked as well for US earthquake and flood.
“I know that this isn’t such a controversial thing to say about US earthquake, but I don’t agree with those who seem to say we can’t model US flood risk adequately—at least at the catastrophic level.
“The foundational input of cat models is claims data from major catastrophes. Katrina and Sandy already gave us copious flood claims data. The claims outcomes from Harvey will enhance our understanding even further.”
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