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In the current climate, investors’ greatest sensitivity is with respect to the structure of the
“ for the majority of asset
collateral accounts and the need to ensure that embedded credit risk (via the TrS provider) is
mitigated as far as possible on account of the adverse experience of some investors related to
allocators, a verifiable track
the bankruptcy of lehman brothers in September 2008.
record spanning a multi-year
The failure of lehman resulted in a degree of contagion between the credit markets and
period can be a minimum
the insurance-linked securities market. lehman acted as the TrS counterparty for four
catastrophe bonds, namely one issuance from each of the Ajax re, Carillon, newton re,
requirement for a manager to
and Willow re programmes. As such, investors in these bonds (at the outset) were not directly
be eligible for investment.”
exposed to fluctuations in the mark-to-market value of the collateral accounts underpinning
these transactions, as lehman was required to make whole any shortfall in the value of the
collateral accounts at maturity. due to the demise of lehman, this protection is not expected
to be honoured in full and investors have become directly exposed to the potential for credit-
related losses.
does not exceed 20. Furthermore, only a subset of these
Whilst much of the securitisation world relies upon swap counterparties to ensure lIbOr-
has actually been in existence for more than five years.
based returns on transactions, this embedded credit risk is not something that some investors
Within the IlS market, a small number of managers,
in the insurance-linked asset class are seeking exposure to.
such as nephila Capital, Fermat Capital and Clariden
leu manage the largest amounts of money (greater
Since lehman’s bankruptcy, much work has gone into improving the collateral package
than $1.0 billion), whilst the others manage between
and structure of catastrophe bonds generally. The solutions that have proven acceptable to
$50 million and $200 million. new allocations have
catastrophe bond investors to date are summarised below.
tended to flow to the larger, more established players
COLLATERAL STRUCTURE DESCRIpTION
in the sector. In particular, those investors that have
had investment strategies beyond catastrophe bonds
1. TRS with government- Typical TRS facility although eligible investments limited
backed securities to government-backed securities
(to include catastrophe swaps, sidecars and industry
loss warranties) have also tended to receive the highest
2. No TRS, Money Market TRS facility is not used. Collateral is held in trust
Securities and eligible investments are limited to money market
allocations.
securities.
however, competition for allocations is likely to
3. puttable (quasi-) TRS facility is not used. Collateral held in trust and
increase during the forthcoming renewal season as
government securities eligible investments are limited to bespoke, puttable
many traditional reinsurers are positioning themselves
(quasi-)government securities
to become active managers of insurance-linked risk
4. Modified ‘repurchase’ or Collateral held with a third party trustee under a
portfolios on behalf of third-party investors. At this
‘repo’ facility repurchase arrangement with a highly rated counterparty.
Eligible investments limited to highly liquid securities
time, most, if not all, global reinsurers are considering
with frequent mark to markets provided by the trustee
(if not already doing so) managing capital in the IlS
market on behalf of third-party investors. Many of
those candidates already benefit from their experiences
despite the problems associated with the lehman bankruptcy, the asset class as a whole (as
of sponsoring sidecar transactions during 2005-2006
measured by the Swiss re Catastrophe bond Total return Index) produced a positive return
and so tend to have institutional support for partnering
of 2.04 percent for the year ended december 31, 2008 and an impressive 6.26 percent year-to-
with the capital markets in order to earn fee income
date in 2009 (Source: bloomberg, August 24, 2009), representing a relative outperformance of
as well as to broaden market penetration. renaissance
the asset class versus most traditional and alternative asset classes during the same period.
re has done this to great effect through its long-term
sidecar facility, davinci re.
Understandably, such outperformance has caught the attention of a broad range of investors
that, over the course of this year, have been assessing which asset classes and strategies have, so
The credit crisis to date has seemingly been a net
far, proven most resilient to the financial crisis. A number of these investors have subsequently
positive influencing factor for the evolution of the
expressed interest in making long-term allocations to the insurance-linked asset class as a result
insurance-linked securities market vis-à-vis other
of its overall insulation from the volatility of the global capital markets.
alternative asset classes. The IlS market has emerged
stronger and more disciplined than ever. beneficiaries
These accounts may be categorised broadly as ‘asset allocators’, which include, among others,
of this new paradigm will undoubtedly be those fund
pension funds, funds of funds, life insurers and private banks. The majority of these investors
managers and re/insurers that are able to position
are domiciled outside the United States, across Europe and Asia, and some have already made
themselves as being the most efficient entry points for
allocations to a select few, established investors in the asset class. Indeed, nephila Capital ltd, a
investors to the broader insurance-linked securities
long-standing player in the insurance-linked asset class reportedly saw net inflows in the second
market.
quarter of this year of as much as $800 million, its total estimated funds under management
in excess of $3.0 billion.
For many asset allocators, a verifiable track record spanning a multi-year period can be a
Daniel Brookman is director and head of non-life insurance-
minimum requirement for a manager to be eligible for investment. It is surprising that even linked securities structuring at Barclays Capital in New York.
after 15 years of the existence of the asset class, the number of dedicated IlS managers still He can be contacted at: daniel.brookman@barcap.com
September 2009 | INTELLIGENT INSURER | 59
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