Sidney Rostan : « The market for cats bonds is primarily a buy and hold market »

According to Sidney Rostan, structurer in the Global Structured Credit & Solutions team at Natixis, the current market environment is favorable for cats bonds due to injections of capital from institutional investors looking for diversification

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The market for Cats Bonds had greatly suffered during the 2008 crisis, where is it today?

The primary market for cats bonds was interrupted between September 2008 and February 2009 following an issue about the quality of collateral assets, after the bankruptcy of Lehman Brothers which was running the collateral of four cats bonds. The market reopened in February 2009 on the basis of more robust solutions regarding collateralization and has steadily grown since then, the overall volume of issuances amounted to about 5 billion dollars in 2010, it is the second most active year in the market after 2007. In comparison with other markets, on the contrary we can consider that this market has suffered less than others.
The current market environment is favorable for cats bonds due to significant capital injections into the market from institutional investors looking to diversify their investments (over 3 billion USD since early 2011). Investment capacity available is therefore high. In addition, low levels of current spreads make cats leaps more competitive in cost and therefore more attractive to potential sponsors in this market.

Natixis has been noticed recently by arranging Cat Bonds issuance (Pylon II Ltd) on behalf of ERDF and by placing 2 slices, one rated B + and B-rated. What was the type of investors for every slice?

Each slice has essentially been placed with funds specializing in risk insurance. Reinsurers and asset managers have also participated in the investment.

The trigger is clearly specified and it does lend itself it not confusing? The master investor he perfectly configurations in which it will not receive any coupon and repayment of the nominal??

The trigger of the Pylon II operation is exclusively based on reports of wind speed made by Meteo France. Therefore, the calculation of any compensation under the operation following the occurrence of a storm is both objective as it is based on information provided by an independent and transparent. The formula is transparent and known from the outset by all investors. The circumstances in which investors would not receive the full coupon or principal repayments are therefore clearly identified.

What about the secondary market? Some investors seemed to suffer from the spreads widening during the crisis in 2008 when they tried to unwind their investments and get back a bit of liquidity…

The market for cats bonds is primarily a buy and hold market. This has not prevented the development of an active secondary market, particularly in case of cat events or in case of high activity in the primary market (investors may seek to rebalance their portfolios). In a context where cats bonds market have outperformed equity and interest rate markets over the period 2008-2009, some investors unwound investments to effectively meet the liquidity, focusing on assets that have often suffered the least like the cats bonds. This has involved the movement of spread widening seen between September 2008 and summer 2009, the spreads have declined steadily since then. So far this widening is relative, the cat bonds market index fell only 7% (SD + up / down +) during this period.

The American company for modeling RMS natural disasters released its new model, called RMS V11, which reduces in Europe the probability of a storm with this magnitude, but has revised upwards the cost of damage for the same storm. Insurers are therefore increasing their potential exposure, depending on model. May these factors "boost" the market for Cats Bonds?

It is difficult to judge at this stage about the impact of the new RMS storm model for Europe on the market volume of cat bonds. The RMS model is only one of the visions of the risk of natural disasters, two other models (from AIR and EQECAT companies) are also used by both insurers / reinsurers and investors. This new model could lead to increased hedging needs but could also change the cost of hedging.

Swiss Re group seemed worried about the persistence of low rates for the reinsurance market, what impact this historically low rate environment really has in the market for Cats Bonds?

Should be differentiated both geographic areas and types of risks. I guess you mean the CAT rates in Europe, as U.S. rates are higher. While the market price of Cats bonds are correlated to reinsurance but what is may be more important in terms of impact is the amount of available capacity and credit quality of reinsurers increasingly taken into account by insurance clients, helped by regulatory changes in Europe.

Paul Monthe November 2011

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