S&P warns on ILS growth at expense of discipline

Rating agency Standard & Poor’s (S&P) has warned that future growth in the insurance-linked securities (ILS) market should not come at the expense of “looser underwriting discipline and less due diligence”.

In its latest report on the ILS industry, titled ' Are Alternative Capital And Reinsurance Two Sides Of The Same Coin?', S&P explained that it expects the alternative capital market to continue to innovate and push boundaries given “the ease and efficiency with which capital has been flowing into this space and the benign natural catastrophe losses during the past few years”.

However, it warned that scrutiny may be diminishing as trends to reduce issuance costs and shorten the time to market mean placing deals without third-party due diligence.

“We believe that one of the reason the ILS market was less affected by the financial crisis was that unlike for other asset classes, a third party provided an independent risk analysis and a higher degree of due diligence,” said S&P.

“Ratings were an additional benefit in the due-diligence process, especially from a pricing and structural standpoint and in the review of the transaction documents to ascertain that these structures adhere to our criteria.”

According to the rating agency, there are currently about $24 billion in cat bonds outstanding, with more than $5 billion of cat bonds issued this year.

The issue amount of publicly placed cat bonds has not been as strong as last year but there has been an increase in the use of private cat bonds (cat bond lite) and collateralised reinsurance.

S&P expects that over the next few years the cat bond market will continue to grow by 10-20 percent per year as investors accept new risk models assessing perils across the globe.