From alternative to essential: the rise of cat bonds in reinsurance

Cat bonds have become a cornerstone, says Philipp Kusche , global head of ILS at Howden Capital Markets & Advisory.

What is the current role of cat bonds in the reinsurance market?

Cat bonds have historically been seen as alternative capital, but—from our perspective—they’re no longer considered “alternative” in the way they used to be. They’ve become a cornerstone of many reinsurance programmes, particularly for larger insurers and reinsurers.

We have been seeing a significant increase in their usage, making them much more mainstream. Sponsors are now consistently assessing whether a cat bond is feasible, especially those buying substantial amounts of reinsurance capacity.

What’s driving this increased interest from sponsors?

Demand from sponsors has grown in recent years, with new sponsors entering the market and driving more transactions. This increased demand is matched by greater acceptance of cat bonds as a key part of reinsurance programmes.

Sponsors are increasingly recognising the benefits of cat bonds, including their multi-year, collateralised nature, and access to a diverse capital pool.

What trends are you seeing from investors?

Investor interest in cat bonds remains strong. Year to date in 2024, nearly $13 billion in new cat bonds were issued and 2024 is expected to surpass last year’s volume. Howden Capital Markets continues to be very active in the space, especially helping new sponsors to enter the market for the first time.

Investors view cat bonds and insurance-linked securities (ILS) as attractive, particularly the current favourable rate environment. Institutional investors are increasingly bullish on these investments, incorporating them into their portfolios. This interest is driven by their non-correlation with other asset classes and a better understanding of the products and their risk:return profile.

What does growing institutional investor interest look like?

There is strong performance data supporting this growing interest. We understand that data analyst Preqin reported that ILS was the top-performing hedge fund strategy in 2023, delivering over 14 percent returns compared to an 8 percent benchmark.

“We’re starting to see developments around other perils such as cyber, terrorism, and other risks.”

Additionally, UCITS-based cat bond funds achieved an average return of 12 percent over the 12 months ending August 30, 2024. These returns, alongside the non-correlation benefit have broadened institutional interest in the asset class, including among funds-of-funds, family offices, and wealth managers.

What emerging risks are cat bonds being used for beyond property-catastrophe?

While property-catastrophe risks have been the main focus, we’re starting to see developments around other perils such as cyber risk, terrorism, and other risks. These are increasingly seen as fitting into the same category as property-catastrophe risks, and I expect we’ll see more transactions in these areas as time goes on.

What role do parametric triggers play in cat bond structures?

Parametric triggers have been in use since the 1990s, particularly in the capital markets, and they remain popular among investors. We’ve seen multiple transactions, particularly from public entities, that use parametric triggers, and investor appetite for these types of instruments continues to grow.

They often offer a clear and simple mechanism for payouts, which is appealing for both sponsors and investors.

How has the cat bond market evolved over the past year?

Last year, we anticipated that cat bonds would become even more popular, and that prediction has definitely played out. We’ve seen record new issuance coming from cat bonds, supported by more capital being made available by investors.

The investor base for cat bonds has grown over the past year, with transaction sizes growing and more available capital driving the market to continue to grow.

What are the key headwinds and tailwinds as we head into the renewal season?

One of the factors influencing cat bonds and investor interest is the outcome of the hurricane season, which could have varying impacts depending on its ultimate severity. Additionally, macroeconomic factors such as interest rates and opportunities in other asset classes are shaping the market.

Cat bonds remain attractive due to the returns they offer versus traditional credit markets. Lastly, the traditional reinsurance market plays a role, as sponsors frequently compare it with the cat bond market’s efficiency.

Philipp Kusche is global head of ILS at Howden Capital Markets & Advisory. He can be contacted at: philipp.kusche@howdencma.com

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