Highlighting the still wide-range of uncertainty in insurance market loss estimates after hurricane Milton, catastrophe bond investment manager Icosa Investments AG has noted that the cat bond market seems to not have discounted prices as widely to account for uncertainty this time.
After hurricane Ian, the catastrophe bond market fell by roughly 10% in a pointy response to the potential for losses and great uncertainty over how impactful that storm event might need been.
In the long run the market recovered the overwhelming majority of that decline, with actual losses only a comparatively small amount by comparison to the initial mark-to-market hit.
This time, as we’ve also been reporting, the range in industry losses for hurricane Milton is wide still.
But last Friday, when the catastrophe bond market was marked after Milton’s landfall, the most important index tracking the sector only fell by 1.34%.
This morning we reported that the common decline across UCITS cat bond funds we’d seen that had reported their NAVs after Milton was only 0.77%.
In a recent LinkedIn post, Icosa Investments raises a legitimate query, as as to whether the uncertainty related to hurricane Milton has been priced in.
After commenting on the big selection in industry loss estimates, “What’s more surprising, nevertheless, is that for some segments of the cat bond market, this lack of clarity doesn’t appear to be well-reflected within the pricing, particularly for bonds exposed to significant attachment erosion if loss estimates shift towards the upper end. As such, the market has reacted quite in a different way to Milton in comparison with Hurricane Ian two years ago,” the cat bond fund manger wrote.
Occurring to say, “After Ian, the cat bond market responded with significant discounts to account for uncertainty. These discounts ultimately proved too large. In Milton’s case, the market appears to be pricing in a “near-perfect” consequence towards the lower end of current loss estimates, not only for Milton but in addition for future risks just like the upcoming winter storm and tornado season, to which many aggregate cat bonds remain exposed after Milton. That is because of the actual fact, that many aggregate indemnity cat bonds have risk periods starting and ending just before the hurricane season, so any “attachment erosion” from Hurricane Milton suffered now, will make these bonds more exposed to future events until summer 2025.”
These aggregate cat bonds are sometimes those that see the best levels of uncertainty, in addition to the widest range of pricing across broker sheets too. It appears the identical could be the case with Milton.
We might suggest that the uncertainty for cat bonds shouldn’t be going to be as significant with Milton, because it was for Ian, because of the adjustments to reinsurance attachments and terms seen through renewals in 2023 and 2024.
But how one event can affect these aggregate cat bonds can take time to change into clear, meaning how brokers price these bonds now might be critical for ensuring accurate valuations that reflect the possibly increased risk of attachment. But this can also be a really tough ask when the knowledge is scarce at an early stage after a catastrophe event.
Icosa Investments also raises the valid query of whether losses could creep in future.
The investment manager wrote, “This brings back troubling memories of Hurricane Irma in 2017. The market initially reacted with steep declines, as reflected by the -15% weekly performance within the Swiss Re Cat Bond Index, because of fears of a direct hit on Miami. Nevertheless, after Irma modified course and avoided the town, the market rallied and ended the 12 months 2017 in positive territory. Despite this relief, significant losses surfaced later, in 2018 and even into 2019, when loss creep impacted several cat bonds, causing losses for investors.”
Which is something the insurance-linked securities (ILS) industry might be watching closely for this time, especially for Florida bonds, as greater clarity emerges over time when loss reports from sponsors begin to be available to analyse.
Ultimately, uncertainty within the industry loss estimates and the still relatively big selection announced thus far does mean some uncertainty will persist in cat bond pricing over the approaching weeks and months.
Icosa Investments is true to spotlight that this uncertainty could also be highest for aggregate cat bonds, given the mark-downs thus far have been lower than seen with Ian. But, time will tell on these as to how accurate the initial marks are, in addition to for any future events that may occur, and it’ll be interesting to see how the cat bond pricing sheets adjust at the top of this week and within the weeks to come back.
While the post-event pricing of catastrophe bond positions has actually proved quite different this time with hurricane Milton, the industry has learned lots since Ian and the terms of reinsurance and retrocession layers (that cat bonds occupy a part of) have modified meaningfully in some cases.
Which suggests a special consequence was warranted and maybe was to be expected eventually Friday’s marking, we’d hope implying a clearer understanding of the loss potential from this most up-to-date storm in addition to a disciplined approach from those marking positions.
However the caution expressed by Icosa Investments on aggregate cat bonds and likewise the potential for loss creep on Florida specific bonds is equally warranted and these might be areas to look at going forwards.