Page 21 - Insurance Times July 2022

bond with an indemnity trigger often takes longer to pay Second, historically, CAT Bonds have provided strong returns,
out. helping to attract alternative sources of capital into insurance
markets.
On an average, CAT bonds with indemnity triggers take two
to three years to pay out following a triggering loss, compared
Risks associated with CAT Bonds
with three months for CAT bonds with industry loss or
CAT Bonds are quite complex and their pay-outs may not be
parametric triggers.That is the reason why parametric
quite simple or predictable. The complexity of the trigger
triggers as the attachment point are favoured in the CAT
event or the attachment point of a CAT Bond is very crucial to
Bonds issued to provide relief for extreme weather events.
the pay-outs. In other words, while retail investors may think
they have a simple proposition, the implications for their pay-
CAT Bond Sponsors
out and principal may be much more difficult in practise than
CAT Bond sponsors include insurers, reinsurers, corporations,
it appears.
and government agencies.
The actual risk level contained in an event-linked security is
Over time, frequent issuers have included USAA, Scor SE,
also hard to calculate. Big Data has allowed many firms that
Swiss Re, Munich Re, Liberty Mutual, Hannover Re, Allianz,
specialize in risk assessment and damage estimates to come
and Tokio Marine Nichido.
up with a reasonable accurate figure of what might happen
if catastrophe strikes but Nature is unpredictable.
Mexico is the only national sovereign to have issued CAT Bonds
(in 2006, for hedging earthquake risk and in 2009 and 2012,
a multi structure instrument that covered earthquake and Finally, because catastrophe bond holders face potentially
hurricane risks). enormous losses, these bonds are rated "non-investment
grade" or BB or lower by most major credit rating agencies.
In June 2014, the World Bank issued its first CAT Bond linked
to natural hazard (tropical cyclone and earthquake) risks in The way ahead
sixteen Caribbean countries.
Catastrophe bonds have emerged over the years as a popular
option for insurers, reinsurers, global corporations and even
Advantages of CAT Bonds
governments as a way to protect themselves against natural
CAT Bonds are advantageous for both insurers and investors disasters.
for a number of reasons.
India is vulnerable to climate change as the National Disaster
CAT bonds offer insurers an alternative to traditional
Management Authority, Government of India(NDMA)
reinsurance and allow catastrophe risk to be transferred to a
estimates that 27 states and Union territories are disaster-
wider set of investors.Unlike traditional reinsurance where it
prone.Hence it is time that India also explored this option to
is possible for the reinsurer to fail to pay out following a loss
address the protection gap in India to mitigate losses from
event, CAT Bonds are 100% collateralized and structured to
climate change.
eliminate counterparty risk.
Currently, the insurance industry is working to improve CAT
CAT Bonds also offer the possibility of multi-year
Bond modelling to cover new types of risk-such as cyberattack
commitments, whereas most reinsurance deals are for a one-
and terror risks. So, it appears that the uses of CAT bonds will
year term. A multiyear commitment allows CAT Bond issuers
continue to grow, offering issuers new avenues to transfer a
to lock in prices over an extended period. Finally, CAT bonds
variety of risks.
have lowered the costs of diversifying insurers' exposure to
natural disaster risk.
Be that as it may, it may also be stated that it is high time we
pondered on the fact that serious and concerted efforts are
For investors, the appeal of CAT bonds is two fold. First, CAT
Bonds are largely uncorrelated with the returns of other urgently required to gradually reduce our carbon emissions
financial market instruments. The incidence of hurricanes as this is the best solution to combat climate change in the
and tornadoes is largely unrelated to economic and financial long-term.
activity. However, it is possible that CAT Bond losses might
happen at the same time as a downturn in the broader References
economy. Various sources.

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