Cat Bond Investors Not Scared Off by Japan Quake

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The catastrophe bond market seems to have survived the Japanese earthquake, its biggest test since the Lehman Brothers bankruptcy, with investors still likely to consider the sector despite millions of dollars of losses.

The cat bond sector – in which insurers transfer risks associated with natural disasters to capital markets investors – has not experienced price drops or spread increases big enough to deter new issuances, say investors, brokers and analysts.

“Behind the scenes, both investors and sponsors are at peace with the results of his event,” John Seo, co-founder and managing principal at Insurance Linked Securities-fund Fermat Capital Management, told Reuters.

Only one transaction is expected to experience a full loss from the ten catastrophe bonds valued at $1.7 billion that were exposed to the earthquake – a catastrophe bond issued by Muteki Limited, which was structured by Munich Re for Japanese carrier Zenkyoren.

The world’s biggest reinsurer confirmed the $300 million bond would be a total loss to investors following Japan’s devastating earthquake.

Another bond – Topiary Capital, launched in 2008 to protect Platinum Underwriters from natural catastrophe risks – has also been triggered, but investors remain unscathed because of the structure of the bond.

Known as a ‘second’ or ‘subsequent event’ bond, the Japan earthquake alone could not trigger any losses to investors. Its calculation agent, Risk Management Solutions has confirmed the quake was large enough to qualify as an ‘activation event’, which means the bond is now exposed to any subsequent qualifying events over the remainder of its term.

BONDS STILL AT RISK
Two additional cat bonds totaling $210 million remain at risk – but as ‘subsequent event’ transactions.

The sponsors of both bonds have sent official event notices to the calculation agents – RMS and EQECAT respectively.

The market is currently waiting for the event report from the calculation agent, Chi Hum, global head of ILS distribution at GC Securities, part of reinsurance broker Guy Carpenter, told Reuters.

“It takes a bit of time because aftershocks within a certain radius are considered within 30 days of the initial loss date in the final loss calculation,” he said.

The US Geological Survey said they had recorded over 2500 aftershocks at magnitude 5 or above, including and following the main magnitude-9 earthquake that struck Tohoku on March 11.

Investors from one catastrophe bond issued by Atlas VI 2009 may have had a lucky escape. The $175 million transaction issued by French reinsurer SCOR to protect it from aggregate losses from European windstorm and Japanese earthquakes saw its annual risk period finish within the 25 day reporting window from the March 11 earthquake.

The magnitude-9 earthquake – despite being a significant index value – was not enough to cause a payment, and there were not enough additional events to aggregate a total loss that would cause a payment.

SCOR did not send an official event notice to RMS because there was no danger of losses, said one investor familiar with the transaction.

MARKET TEST
Katrina did not scare off big investors from the bonds, and analysts and brokers do not expect the earthquake to scare them either, say brokers and investors.

Catastrophe bonds covering Japan earthquake risk represents a very small part of the larger sector, explains Paul Schultz, president of Aon Benfield Securities.

“The total notional amount of the bonds exposed is less than 15 percent,” he said, adding the event will probably not decrease the expected $5 – $6 billion year-end issuance total. Investors realize that when they invest in catastrophe protection, there will lose money on natural disasters.”