In 1H10, the trend of strong returns for insurance-linked securities (ILS) continued, according to the first edition of Swiss Re's update on the ILS market for August 2010.
The Swiss Re Global Cat Bond Index returned 3.3% in the first half of 2010, with recent price drops at the beginning of wind season, which offset a very strong 1Q10.
New-issue volume for 2010 year-to-date is $2.5 billion, 40% more than the same period in 2009, and 73% of all 2009 issuance.
Swiss Re anticipates there will be a robust pipeline of deals for non-U.S. perils for the rest of the year. Thus, it seems likely that 2010 new-issue totals will meet or exceed 2009 levels.
Close to 85% of the new issuance in this period was exposed to U.S. Wind risk. This heavy
concentration contributed to capacity constraints for buyers and led spreads for this
peak peril to widen in May and June.
Meanwhile, spreads for bonds with non-U.S. risk started trading at tighter levels in the secondary market as buyers sought to balance their portfolios.
This dislocation happened as a result of a couple of dynamics. First, many dedicated investors reached their aggregate limits for U.S. Wind risk and were unable to buy more U.S. Wind bonds inspite of having the cash to do so.
Second, the forecasts for the 2010 hurricane season have implied a very strong storm season
ahead for 2010. This caused buyers to be more cautious with purchasing new positions.
It is Swiss Re's view that this dislocation is temporary. As the market enters into the wind season and there is increased visibility around the level of hurricane activity, buyers are coming back to the market.
Also, as outstanding bonds mature and bonds with non-U.S. Wind risk come to market, Swiss Re expects constraints to ease for those buyers who have reached their maximum aggregate U.S. Wind limit.
There are currently $13.5 billion bonds outstanding in the cat bond market, according to Swiss Re. The overall outstanding amount might dip from the prior couple of years as a result of the lag in new-issue in 2008.
But, the market only needs to have another $1 billion in new issues to exceed last year’s level. Stronger new issuance would mean a rebound in the market's growth after the financial crisis.
In 2H10, Swiss Re is anticipating $2 billion of maturities, adding more capital back into the sector. Approximately $1 billion of this is the Merna Reinsurance deal, which was investment-grade paper and generally appealed to a different investor base.
U.S. Wind bonds' maturity and issuance of non-U.S. wind perils should allow buyers to take on more U.S. Wind risk.
By April 2010, spreads tightened on average around 40% to 50% from the wide levels of
bond new issues in 2009.
But, as the hurricane season approached, new-issue activity heightened, investors’ U.S. wind capacity began to fill and spreads began to widen again for bonds containing U.S. Wind risk. Despite this widening, spreads for the early 2009 new-issue class are still around 40% tighter compared with their initial issuance.
