CAT BONDS Qaiser

AbbasINSTITUTE OF MANAGEMENT

SCIENCES PESHAWAR

A MASSAGE

INTRODUCTION CAT BOND means Catastrophe Bonds Financial instrument used to transfer natural

catastrophe’s risks A natural catastrophe is an extremely large-scale 

disaster, a horrible event.Earthquakes HurricanesFloodsStormsTsunamis etc

Insurance & reinsurance companies issue CAT Bonds

INTRODUCTION Cat bonds are likely to be issued in covering

potential losses from natural disasters First time issued in mid 1994 by Hannover Re The market grew to $1–2 billion of issuance per year for

the 1998–2001 period Over $2 billion per year following 9-11 After Hurricane Katrina (2006),issuance doubled

$4Billion Till 2012 at an average $ 8Billion Used in USA and Japan Planning to issue in new regions such as Mexico,

Australia and China (Swiss Re said)

SPONSORS / ISSUERS

TOP INSURANCE COMPANIES

TOP REINSURANCE COMPANIES

 USAA  Liberty Mutual  Allianz

Munich Re – Germany ($31.4 billion Gross Written Premiums)

Swiss Re – Switzerland ($30.3 billion) Berkshire Hathaway / General Re –

USA Hannover Re – Germany ($12 billion) SCOR – France ($6.9 billion) Reinsurance Group of America – USA

($5.7 billion) Transamerica Re – USA ($4.2 billion) Everest Re – Bermuda ($4.0 billion) Partner Re – Bermuda ($3.8 billion) Axis Capital – Bermuda XL Re  – Bermuda ($3.4 billion)

(part of XL Group)

ORIGIN Catastrophe bonds came to prominence in the

early 1990s After natural disasters like

Northridge earthquake in California Hurricane Andrew in Florida

Losses nearly $30 billion to insurers and reinsurers

Severely stressed the firms within insurance industry to meet their financial obligations

So to avoid natural catastrophe risks they came with the idea of CAT BONDS

DEFINITION A high-yield debt instrument that is

usually insurance linked and meant to raise money in case of a

catastrophe such as a hurricane or earthquake.

It has a special condition that states that if the issuer suffers a loss from a particular pre-defined catastrophe,

then the issuer's obligation to pay interest and /or repay the principal is either deferred or completely forgiven.”

DEFINITION

Insurers and reinsurers use cat bonds to transfer some potential losses from natural disasters to capital markets investors, who receive a high rate of interest but risk losing all or part of their principal if a catastrophe occurs.

STRUCTURE

PROPERTIES Highly paid debt-instrument No correlation with Market & other

securities Trigger depends on Catastrophe event Most cat bonds are rated BB and B

category Chances of trigger 1% Principle repayment after Maturity, IF Time period 3-5 years Currently returns @ 9% in US

TRIGGER TYPES Sponsor & investment bank choose the structure

1. INDEMNITY:○ triggered by the issuer's actual losses○ Eg; losses more than $500 million layer , bond is triggered

2. MODELED LOSS:○ Triggered on the basis of exposure to loss○ Measured through catastrophe modeling software

3. INDEXED TO INDUSTRY LOSS :o Trigger of bond depends on over loss to insurance industryo But if the loss go beyond a specified threshold

4. PARAMETRIC instead of being based on any claims trigger is indexed to the PARAMETERS of natural hazard caused by nature Eg : wind speed greater than X METER/ SEC Ground acceleration above 6.5 on Rickter Scale

MARKET PARTICIPENTS

1. Cat bond sponsors  USAA, Swiss Re, Munich Re, Liberty Mutual, Hannover Re, Allianz,

and Tokyo Marine Nichido

2. ALL catastrophe bond investors have been institutional investors

specialized catastrophe bond funds, hedge funds, investment advisors (money managers), life insurers, reinsurers, pension funds, and others.

Individual investors have generally purchased such securities through specialized funds.

3. Investment banks and Inter Dealer Brokers that are active in the trading and Issuance of catastrophe bonds 

Aon Benfield Securities, Inc., BNP Paribas, Tullett Prebon, Swiss Re Capital Markets, GC Securities (a division of MMC Securities Corp. and affiliate of Guy Carpenter), Goldman Sachs, Munich Re Capital Markets, Barclays Capital, Deutsche Bank, & JP Morgan

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