Picking up after a slow start

Anyone worried that the apparently low level of catastrophe bond issuance in the first quarter of 2010 was indicative of a slow year can rest easy. While only two deals were completed – Swiss Re’s $120m (£82m) Successor X deal and The Hartford’s $180m Foundation Re III transaction – compared with three deals in the first quarter of last year that accounted for $575m of risk capital, the second quarter more than made up for it.

A further eight deals in Q2 brought the total issuance for the year to around $2.35bn, compared with $3.5bn across 19 transactions in the whole of last year. And, as market participants point out, first quarters traditionally are quiet in the cat bond market, tending to pick up in the second quarter as companies prepare for the hurricane season and again in the fourth quarter in keeping with the run-up to the main renewal date on 1 January.

Q1 2010 may have looked quiet, but the financial crisis effectively had closed the cat bond market for the second half of 2008. Issuance spilled over into 2009, making the first quarter busier than usual.

Activity in the first half of this year seems to support estimates that issuance will at least equal last year – and could reach $5bn. However, the market still has some way to recover before it hits the highs of 2007, when 27 deals representing $7bn of risk capital were launched.

An encouraging sign is that the portfolio so far this year contains both regulars and those tapping the capital markets for reinsurance coverage for the first time.

Few will be surprised to see the return of US military home, life and motor insurer USAA. Residential Reinsurance 2010 is its 14th cat bond from its Residential Reinsurance special-purpose vehicle. The latest outing is a three-year, four-tranche $400m bond providing protection against US hurricane, earthquake, thunderstorm, winter storm and wildfire.

Chartis makes its debut

Meanwhile, AIG subsidiary Chartis made its cat bond debut in May, issuing $425m of bonds through Bermuda-based special-purpose vehicle Lodestone Re. The three-year, two-tranche bond provides the property and casualty insurer with fully collateralised coverage against US hurricanes and earthquakes.

Other deals include US insurer State Farm’s $350m Merna Re II, Assurant’s $150m Ibis Re II, the North Carolina Joint Underwriting Association and North Carolina Insurance Underwriting Association’s $305m Johnston Re, Nationwide Mutual’s $185m Caelus Re II, Munich Re’s $80m EOS Wind, and Allianz’s third Blue Fin bond, valued at $150m.

There are several reasons for the resurgence. Deals were expensive when the market reopened in 2009 as investors put a premium on any capital they were offering. However, as the year progressed, cat bond spreads tightened.?The result was that, towards the end of 2009 and into the start of this year, capital markets coverage was available at a price comparable to that in the traditional market, tempting new issuers and more seasoned players to return.

Investors also have more capital, not least because of the high-level of cat bond maturity expected from the bumper crop issued in 2007 (most cat bonds have a three-year lifespan).

According to reinsurance broker Guy Carpenter’s first quarter catastrophe bond update, $888m worth of bond matured in the first quarter, with $4.08bn due to mature before the end of the year. To the extent that happens before the end of the year, investors will have more capital to reinvest in the market.

However, an offsetting factor could be more attractive opportunities in other asset classes, which could lure investors’ capital away from the market.

ben.dyson@globalreinsurance.com

Key points

• First quarters are traditionally quiet in the cat bond market

• Last year’s Q1 was busier than usual after the financial crisis effectively shut the market towards the end of 2008

• Things still have some to go before they reach the highs of 2007

• Investors have more capital as 2007 cat bonds mature