The third quarter is usually quiet for the catastrophe bond market, and 2009 was consistent with past years. Issuers completed two transactions, bringing USD412 million in risk capital to the market. Nonetheless, risk capital issued was up by a third relative to the same quarter last year, as both catastrophe bonds issued were upsized considerably. The consensus estimate for the entire year remains USD3 billion to USD4 billion, implying a strong fourth quarter for primary issuance.
The two issuances, including Parkton Re Ltd, on which GC Securities acted as co-lead manager and joint bookrunner, were among only a few issuances to be upsized this year. The initial target placement of USD125 million ultimately led to a USD200 million transaction. For the entire year, 11 catastrophe bonds were issued, for USD1.79 billion in risk capital. In terms of risk capital this is 33.5 percent lower than the first three quarters of 2008 in which 13 issuances were completed, yielding USD2.69 billion in catastrophe protection.
A strong issuance pipeline and increased financial market stability have led to a consensus estimate of approximately USD3 billion to USD4 billion for full-year issuances. This would entail USD1.2 billion to USD 2.2 billion in new risk capital and would constitute 40 percent to 55 percent of the year’s issuance — making it the most active quarter of 2009. A fourth quarter accounting for greater than 40 percent of any year’s total issuance has been reached only once (in 2004)
Though a USD1.2 billion to USD2.2 billion fourth quarter may seem to be a stretch, several factors suggest that it could be realized. In the third quarter, both transactions were placed within (or, in the case of Parkton Re Ltd., below) spread guidance and well inside the spread levels associated with transactions completed in the first half of the year. Both were also upsized significantly relative to initial placement targets. And, the easing of credit markets and increased investor demand provide further support. A favorable wind season this year, based on insured losses, is also making catastrophe bonds more attractive to both issuers and investors.
Yields have declined on similarly rated alternative investments. As an example, the yield on BB-corporate debt, which was near an all time high at the beginning of 2009, has declined by more than 45 percent during 2009 year to date. The general easing of prevailing yields across assets that are often compared to cat bonds should make it easier for insurance linked securities (ILS) investors to accept lower spreads while still generating competitive returns.
The tightening of spreads is bringing the ILS market back from the unusually wide levels sustained in the first half of 2009. Elevated catastrophe bond spreads — especially when contemporaneous to adequate traditional reinsurance capacity that has not increased its pricing by the same magnitude as the capital markets from 2008 to 2009 — have had a dampening effect on issuance activity, particularly from reinsurers.
Sponsors that were not inclined to issue during the first two quarters of 2009 because of pricing concerns may renew interest in catastrophe bonds, as the other benefits of catastrophe bond protection (e.g., multi-year fixed pricing, fully collateralized cover and a sourcing capacity from an alternative providers relative to traditional reinsurance and retrocession providers) not only remain, but will now be attainable at more favorable price points.
* Securities or investments, as applicable, are offered in the United States through GC Securities, a division of MMC Securities Corp., a US registered broker-dealer and member FINRA/SIPC. Main Office: 1166 Avenue of the Americas, New York, NY 10036. Phone: (212) 345-5000. Securities or investments, as applicable, are offered in the European Union by GC Securities, a division of MMC Securities (Europe) Ltd., which is authorized and regulated by the Financial Services Authority. Reinsurance products are placed through qualified affiliates of Guy Carpenter & Company, LLC. MMC Securities Corp., MMC Securities (Europe) Ltd. and Guy Carpenter & Company, LLC are affiliates owned by Marsh & McLennan Companies. This communication is not intended as an offer to sell or a solicitation of any offer to buy any security, financial instrument, reinsurance or insurance product. David Priebe is the Chairman of Global Client Development at Guy Carpenter & Company LLC.