Capital outstripping transactions in ILS


The insurance-linked securities (ILS) market is set to have a record year and the pipeline for 2014 suggests that next year will be an even stronger vintage.

That is the news from Paul Schultz, CEO of Aon Benfield Securities, who said that the key driver of the rising ILS market was the “supply of capital, which is favouring the supply side and delivering more capital to the market than there are transactions”.

He said this had meant that spreads for US sponsors of cat bonds had declined by as much as 35 to 45 percent in recent months, with significant benefits apparent for issuers.

“This has in turn encouraged greater confidence among those insurers who to date have not considered ILS transactions,” said Schultz. As such he is bullish about 2014, adding that Aon Benfield is currently working with two clients that have not previously issued in the ILS space. Such signs were positive for prospects in the coming 18 months.

“With the supply of capital coming into the space likely to continue to exceed risk capacity,” Schultz said, “it is only a matter of time before capital markets interest extends into other perils.

“The securitisation of non-cat perils such as casualty and liability is inevitable. It will be a more difficult prospect, with longer-term exposures presenting a challenge to institutional investors, but it is really only a matter of form and efficiency.”

Schultz said he sees three approaches being taken by the market in its employment of alternative capital. “The first is insurers and reinsurers both using cat bonds to reduce the cost of their tail capital. If clients have a return on equity expectation from their shareholders of between 10 and 16 percent, and if you look at the average cost of a cat bond between 6 and 8 percent, you can see that there are cost savings available by swapping out one form of capital for another. We expect that behaviour to continue and to be a core part of the market.

“The second approach is clients in both insurance and reinsurance taking advantage of sidecar capacity, which provides added capacity right across the underwriting spectrum.

“Finally, we see predominantly reinsurers acting as fund managers, where they derive fee income by bringing capital that has a differentreturn perspective from traditional capital to their clients. In this way they can effectively offer their clients more solutions by accessing third party capital,” he said.

Bermuda Re