The Intelligent Quarterly from the publishers of The Insurance Insider

Autumn 2014

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The class of 2009 returns

In the late rush to place risk into the capital markets before the hurricane season, there have been clear signs of evolution in the pool of catastrophe bond issuers.

In addition to insurance-linked securities (ILS) stalwarts Allianz, the Hartford, Munich Re and Swiss Re, the class of 2009 were back in force. First-time issuers from last year, Assurant and the North Carolina Joint Underwriting and Insurance Underwriting Associations (NCJUA/IUA), both returned to the capital markets in 2010. Meanwhile at the time of going to press, Nationwide Mutual was on the road marketing its second transaction of the past 12 months - Caelus Re II.

The sector continues to draw new blood. Chartis accessed capital markets capacity for the first time in 2010 with the gigantic Lodestone Re deal. Lodestone offered $425mn of US wind and quake protection to Chartis subsidiary the National Union Fire Insurance Company of Pittsburgh (NUFICP).

Catastrophe bond veterans such as Swiss Re are facing competition for capacity from a new breed of issuer. The class of 2009 add a US slant to the market, and the high concentration of primary insurers placing bonds in 2009 and 2010 is also a new development.

The option of fully collateralised, multi-year protection through the capital markets continues to attract insurers and reinsurers alike - and USAA will add another notch to its belt in May with the issuance of its 14th consecutive catastrophe bond, Residential Re 2010. If successful, the transaction will be the largest in 2010 at an impressive $500mn.

Q2 activity took off with $1.4bn of risk ceded in April and May (to date). The pipeline remains strong, with a further two confirmed deals expected to close before June, taking volumes for the year up to $2.5bn. This would put the market on track to beat 2009 volumes. $3.4bn of risk was transferred last year, but brokers Guy Carpenter and Aon Benfield are anticipating up to $6bn in 2010.

There are, however, murmurings of discontentment from ILS-sponsoring (re)insurers. At the recent second ILS Summit in London, Zurich and Hannover joined in a call for increased efficiency from the market, specifically referencing transaction fees.

Hannover Re CEO Ulrich Wallin told an industry audience: "Prices and expenses must come down. This is a pre-requisite for the market to grow into another league." Transactions are currently "very profitable" for service providers due to the high frictional costs, Wallin added.

Reto Koller, head of reinsurance recoveries at Zurich, echoed the Hannover Re chief's comments. Reflecting on the Lakeside Re II transaction, which closed in December last year, Koller added: "At the time of issuance, pricing for California earthquake cover was competitive, but frictional costs were a significant consideration."

Koller also noted that issuance timeframes of four to five months - as seen on Lakeside Re II - made it difficult for sponsors to commit to a transaction so far in advance of closing. According to Wallin, typical transaction fees are around 2 to 3 percent, which produces a sizeable number when considering a $100mn-plus issuance.

One banker told IQ's sister publication Trading Risk that "buyers pay to transact in any market". "In reinsurance, brokerage is 10 percent or more of premium," he said. "The typical range of spreads on cat bonds is 6-12 percent. If placed as reinsurance, the [equivalent] fee would be 60-120bps. Transaction cost can be closer than generally portrayed, especially for high rate on line business."

Fierce competition among cat bond dealers has pushed fees for ILS services well below those prevailing for comparably rated securities in the capital markets, according to senior market sources. Fee levels at 1 percent or below reportedly create "challenging economics" for dealers in light of transactional complexity and volumes.

The dramatic squeezing of fees - from highs of around 2 percent in the late 1990s - and calls for continued market efficiency from both investors and ILS issuers risk putting considerable pressure on arrangers, sources said.

Despite his comments on efficiency, Reto Koller remained convinced that the capital markets were an attractive option to insurers. He told the industry audience that Zurich valued the collateralised multi-year cover available through ILS, adding that the economics for the Lakeside Re II transaction were "very compelling".

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This article was published as part of issue Summer 2010

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