Casualty sidecars gain momentum but AM Best flags structural questions
Insurance-linked securities (ILS) have spent most of their history transferring short-tail catastrophe risk. The next frontier emerging in the market, casualty sidecars, challenges that model in ways that AM Best suggests is less about scale and more about structural understanding.
Ahead of the Business Development Agency’s Bermuda Risk Summit, Matthew Tuite, director at AM Best – a sponsor of the event – told Bermuda:Re+ILS that, “what we've seen is growth in the property side and also in the casualty side when it comes to sidecars.” This shift is drawing new investor attention but also expanding a different class of risk into the ILS ecosystem.
The evolution into casualty requires a different approach as the mechanics of the risk are fundamentally different from the catastrophe structures that have dominated ILS portfolios for decades.
On the investor side, the challenge begins with the unfamiliar dynamics of long-tail liabilities. “It's new and do the investors understand the long-time lag?” Tuite said. “Do they understand how company reserving processes work?”
That question cuts to the core structural distinction between property-catastrophe bonds and casualty-linked structures. Property-cat risk tends to resolve relatively quickly, with modelled events and defined loss windows. Casualty, by contrast, evolves through a reserving process that can change materially over time.
As Tuite described it, investors must navigate the complexity of actuarial judgement embedded within the balance sheet. The process involves “the actuaries putting up reserves and putting up incurred but not reported (IBNR) losses, and then maybe taking down IBNR if results are good, or putting up more IBNR if results turn out not to be as good as expected.”
“There’s definitely a learning curve there,” he said.
Investor risk considered, Tuite proposed a more consequential factor: “Maybe even more important from our perspective at AM Best is the risk sidecar sponsors could face,” he said. The structure of casualty sidecars introduces uncertainty around how risk is collateralised and where ultimate loss exposure resides.
The key issue is the relationship between collateral posted into the structure and the potential long-tail development of claims. Tuite questioned: “We'd be interested to know to what level these casualty ILS or casualty sidecars are being collateralised to. How do they do it? Is it a percentage of reserves? Is it some other metric that they're using?”
Even if collateral levels are calibrated to expected loss estimates, the long-duration nature of casualty risk means outcomes can diverge over time. As Tuite noted: “Even once they've collateralised to that level, the total loss potential could exceed that level of collateralisation.”
That possibility raises a structural question for sponsors deploying the model: “Is there some tail risk that could flow back to these casualty sidecar sponsors?” Tuite questioned. “The tail risk back to sponsors is definitely something to monitor and to pay attention to.”
For Bermuda-based re/insurers, the expansion into casualty represents both an opportunity and a test of balance-sheet architecture. The appeal is clear: casualty portfolios offer diversification beyond peak catastrophe zones and open additional avenues for third-party capital participation.
But the transition also pushes ILS further into the domain of underwriting judgement and reserving discipline, areas where risk does not crystallise on a defined event date and where the capital structure must accommodate uncertainty over a much longer horizon.
The success of casualty sidecars will ultimately depend on a time horizon shift to risk appetite and whether capital markets investors can become comfortable underwriting the actuarial process itself.
Did you get value from this story? Sign up to our free daily newsletters and get stories like this sent straight to your inbox.
