“ Using the capacity available in the capital markets has become an increasingly popular way of transferring these risks in recent years through the use of insurance-linked securities or catastrophe bonds.”


While catastrophe bonds have been used by the insurance industry in


various forms since the mid-1990s, their use as a means of transferring risk from country-specifi c catastrophe pools into the capital markets has only been happening more recently.


“This fi eld really began about four to fi ve years ago, after the fi rst


Mexican cat bond,” says da Victoria Lobo. “What’s remarkable is that, in that time, we have seen the sector grow from one transaction and one client in 2006, to 10 to 15 or more transactions in 2010, with a multitude of clients—and more importantly, in various lines of business.”


But while developed countries have cottoned on to the advantages of


catastrophe bonds and are using them, Mexico remains the only emerging economy to transfer risk in this way.


The reasons for this are varied. Andrew Barile, president and chief


executive officer of Andrew Barile Consulting Corporation Inc, warns that governments should tread carefully when developing an appropriate instrument to transfer risks of this nature. “They must explore both options and put together a task force with an appropriate budget so they can retain all the necessary reinsurance catastrophe experts,” he says.


Others, while agreeing such instruments are inherently complex and


demand a high level of sophistication when being set up, add that the biggest thing holding back many governments is often simply internal regulations and bureaucracy.


“Clearly, some of the barriers are internal,” says Nirmaljit Singh Paul, a


lead fi nancial offi cer in the derivatives and structured fi nance division of the World Bank treasury department.


“Many governments have regulatory requirements that must be adapted for this new type of instrument. In some countries, there is a lot of work that is required to be done to achieve consensus among all constituents—in some countries, they do not even consider insurance to be a good product.


“Then there are technical issues, such as developing the capacity


to work with the World Bank in preparing and executing a fairly sophisticated capital market transaction. Technical capacity is a constraint in some countries.”


Despite these challenges, efforts are being made both by governments


and those within the insurance industry to develop the use of instruments such as catastrophe bonds and catastrophe pools within emerging markets. Such techniques should increase insurance penetration, therefore offering greater protection to those societies.


“We are now offering a cat bond solution, which we think is a relatively


easy way for governments to gain access, and is transparent and open in comparison with other forms of reinsurance and insurance,” says Zelenko at the World Bank. “The Bank is devoting time to discuss with governments how they can move ahead with developing this undertaking in buying insurance and managing catastrophe risk—and the catastrophe bond is going to be one of the key tools to be used.


“I’m not saying that it’s something which happens quickly or is easy to make happen. Discussions tend to be long, as governments want to know exactly what they are doing when they buy insurance. But this is certainly the direction in which we are heading now.”


While addressing different needs following a natural catastrophe,


catastrophe bonds and catastrophe pools are instruments that can be used in conjunction with one another.


“The two are not mutually exclusive,” says Anger. “In regions which


already use cat pools and to which no other mechanisms for reinsurance coverage are readily available, they should continue to do so, with their cat pool assuming risk and providing coverage to individual consumers who may not be able to obtain it from other sources. There is always value in making sure that consumers have access to insurance coverage.


“However, the use of risk transfer, whether it be through reinsurance or


an alternative form such as cat bonds, will become even more important as you look at the ramifi cations of events—especially in terms of who is actually having to fund the economic losses. There is a separate market that can help bear the fi nancial burden of these events.”


Given their success so far, it appears that both catastrophe pools and bonds will play a vital role in providing protection against all that Mother Nature can throw at mankind. Whether used independently of each other or in partnership, they offer a way for both developed and emerging nations to take advantage of the protection insurance can offer populations.


Summer 2011 | INTELLIGENT INSURER | 37


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