among European insurance deals
A recent study led by the Group of Thirty - an international body that includes senior representatives of the private and public sectors and academia - found that insurers must more aggressively tune into capital market alternatives to fill gaps such as covering longevity risks and meeting the rising demand for reinsurance from emerging markets.
The study coincides with the growing use of securitization among European insurers that have over the years brought to the capital markets a variety of structures that have worked and not worked. But the growing interest in some of the more recent deals that priced over the December 2005/January 2006 period indicates that a growing investor base is helping to drive down the costs of executing these deals.
According to the G30 report, that increase in the investor base has helped spreads drop by about 25% on average and maturities are significantly longer than in prior years. Risk transfer prices in the capital markets have been converging with reinsurance pricing, reflecting the current level of reinsurance prices and the low level of interest rates and credit spreads.
"Issuers are discovering that prices compare more favorably with multiyear collateralized reinsurance for the relevant risk," the report said.
Pricing innovative deals
AXA and Swiss Re both recently launched deals snapped up by investors that have no ties to the insurance or reinsurance industry. A spokesperson at AXA said one of the key objectives behind its FCC SPARC transaction - a securitization of the AXA France IARD motor insurance book, the main operating entity of the AXA group in France - that priced last December was to diversify the reinsurance source out of the traditional reinsurance market by accessing traditional ABS investors.
The entire placement was achieved via traditional ABS investors such as money market funds, banks and asset managers. None of the notes were sold to reinsurers or insurers specializing in property and casualty insurance activity.
"The reinsurance industry is an oligopoly in the hands of a reduced number of good-quality, high-rated actors who drive prices and on whom insurance companies have accumulated counterparty risk," said a source at AXA. "This transaction offers to diversify sources, away from reinsurance cycles and with no counterparty risk."
FCC SPARC was the first insurance risk securitization to reach pricing targets close to traditional ABS/RMBS securitizations of highly diversified pools. Spreads at issuance were: 15 basis points over the three-month Euribor for the triple-A, Class A notes; 37 basis points for the single-A, Class B notes; and 59 basis points for the triple-B, Class C notes.
FCC SPARC is rated triple-A on a standalone basis because the structure employs a non-SPV as reinsurer, Nexgen Re. This was legally permissible thanks to the recent implementation of the European directive on collateral arrangement (EU Financial Collateral Directive, 2002/47/EC). It is the first public securitization transaction to be based on this new legal environment, said an AXA spokesperson.
It's a similar story at Swiss Re in the case of its recently closed indemnity-based credit reinsurance securitization. The issue, which closed on Jan. 13, consists of three separate tranches with an average pre-tax coupon of three-month Euribor plus 3.93% per annum, paying quarterly, a scheduled maturity of three years and a legal final maturity of 6.5 years. The underlying risk in Swiss Re's indemnity-based credit reinsurance securitization is linked to the claims and reserves, which Swiss Re will have on its credit reinsurance business for the underwriting years 2006, 2007 and 2008. The indemnity trigger allows Swiss Re to achieve capital relief at minimal basis risk while providing the investor with the benefit of an actively managed credit insurance book over three years.
Swiss Re has been covering the growing European investor base with focused resources on the key jurisdictions through its established European capital market shop base.
"We used to place a small percentage of insurance securitization deals with European buyers, and now we are seeing a growing and material percentage of these deals bought in Europe," said Luca Albertini, head of European ABS/ILS origination and structuring capital management and advisory at Swiss Re. "We now are shifting to service European investors via a more structured approach."
Albertini said Switzerland, Ireland, France and the U.K. are important players in the market.
Analysts at Standard & Poor's said both of the underlying portfolios in each of these transactions demonstrated a strong diversification and stability. AXA's portfolio contained about 3 million policies from most regions in France. The risks in the Swiss Re underlying portfolio stem from several million of trade receivables.
20 years down the line
But despite these recent breakthroughs, the pace of insurance securitizations still remains slow in relation to the total volume of risk on the balance sheet of the insurance and reinsurance industries. It's a market that is typically driven by five to eight transactions each year. But the life sector, based on recent demand, particularly in the U.S., is poised to grow even more.
On the European front, Albertini said there has been a surge in interest in this product. However, it's too early to gauge if these inquires will turn into a buying frenzy going forward. Though Swiss Re has kept busy this year with five transactions closing by the end of January, Albertini said it is not unusual for these types of deals to come in lumps because they typically take from five to six months to structure. The company has a number of transactions that are expected to market later this year.
"Securitization is a strategy we use to make our company more capital efficient," he said.
The G30 study compares securitization developments in the insurance industry to its history within the banking sector. Banks were driven to the capital markets 20 years ago, seeking to manage their balance sheets more effectively, improve their capital positions and enhance their returns on assets and equity - similar motivations influencing the insurance industry today.
"Nowadays, securitization transactions for the banking sector have developed, and banks are able to transfer almost all the risk they want to get rid of," the AXA source said. "The competition between banks and insurance companies is growing, so the insurance industry needs the same techniques and tools those banks [have]."
But the study warned that unless the industry becomes more transparent, it could fail to grow a large investor base.
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