A Half Term Report for 2007 Securitizations

October 31, 2007 By: Morton N. Lane, President; Roger G. Beckwith, Vice President It has been our practice to issue an annual report each March detailing the activity in the securitization market in the preceding 12 months, a Q1 to Q1 report. However, the pace of issuance has quickened and behooves us to issue an interim report half way through our usual cycle1. During the past half year $6 billion of cat securitizations have been placed in the market almost exceeding that for the preceding 12 months. Included in that total are some sizable issues by Allstate, Travelers and State Farm. If nothing else signifies the ILS market’s coming of age, it is perhaps the entry of the largest of US insurers into the market. Included in that total of $6 billion are several items worthy of note. First, there are some $1.4 billion of “loans” as opposed to “securities” – perhaps a victory of form over substance. Second, there are two CDO structures, one of which is static, Fremantle, duplicating the Bay Haven success, and one very original structure which is an actively managed CDO, Gamut. Third, there is a higher percentage of “indemnity” deals than we have seen in a long time. This is without including the totals from outstanding sidecars which are pure indemnity transactions. Finally, the last six months saw the introduction of the first multi-sovereign issue, the Caribbean Catastrophe Risk Insurance Facility (CCRIF). To read the full version of this article with graphs: Download the PDF Here

 

Quarterly Market Performance Report

October 15, 2007 By: Morton N. Lane, President; Roger G. Beckwith, Vice President A benign storm season (so far) has led to high returns for investors in cat bonds for the second year running. That is reflected in the quarterly report shown in the adjacent table. The (All Cat) quarterly return is 3.76%, which if repeated every quarter would result in an annual return of 15.04%. Given an average coupon of approximately L + 8%, this is only possible because of rising cat bond prices (falling yields or premiums). Historical Cat yields are plotted on page 6. The adjacent Table also shows that we have subdivided the market returns into several categories. The first division is between pure Cat bonds, Life securities, and “Others” (i.e. non-Cat, non-Life). These latter categories are presently small, but worth tracking as they will undoubtedly grow. Note that the Life category only includes those bonds that provide a “risk analysis” to investors. That is typically not the case, for example, for XXX securitizations which are not included here. The second division of the insurance linked securities (ILS) market is between those bonds originally issued at an investment grade rating versus those originally issued at sub-investment grade, i.e., below BBB-. Many hedge funds seek high returns and do not invest in highly rated bonds, so a sub-investment grade index may be more reflective of their activity. Of course, funds also apply leverage. To read the full version of this article with graphs: Download the PDF Here

 

Optimal Insurance and Reinsurance Portfolios...

Sept. 24, 2007 By: Morton N. Lane, President; Jerome Kreuser Some reinsurers use optimization procedures to generate underwriting portfolios, maximizing expected returns which are perfectly aligned with their stated risk preferences. Similar objectives apply to those who use simulation or DFA techniques. However, beyond the optimal portfolio itself, optimizers as part of their output also generate marginal economic signals, such as “implied” or “risk adjusted” probabilities which are important but underused and often misunderstood management tools. The purpose of this paper is to further illustrate the power of those economic signals. In an earlier paper4 we illustrated how implied or risk-adjusted probabilities from optimal solutions may be derived and used in a simple single risk zone example. In this paper we continue the same simplifying universe but with multiple risk zones. We then use the marginal outputs to illustrate how to price indifference points for traditional retrocession purchases, which complement the optimum portfolio. In addition, we show how the implied probabilities may be used to allocate retrocession costs to the respective zones. Of course, allocating retrocession costs is an important sub-species of allocating capital costs in general. Actually we also believe the marginal outputs are the key to unlocking general capital allocation decisions. To read the full version of this article with graphs: Download the PDF Here

 

Developing LFC Return Indices

August 14, 2007 By: Morton N. Lane, President; Roger G. Beckwith, Vice President; Jason Overbey It is a non-trivial exercise to construct a set of indices representing the world of Insurance Linked Securities (ILS).  And, at the end of the exercise, there is neither a unique nor a precise formula for the perfect index. In case this observation causes undue distress, it is well to be reminded of the variety of indices used to represent the US stock market. The Dow Jones Index is a price-weighted index of 30 stocks. At the other end of the spectrum, the Wilshire 5000 index offers market capitalization-weighted indices related to both total capitalization and float weighted capitalization. The S&P 500 index is float-weighted and the NASDAQ 100 is a “modified” market weighted index.  Each captures different aspects of the market and over time consumers have found utility in each of them. To read the full version of this article with graphs: Download the PDF Here

 

That was the Year that was!

April 20, 2007 The 2007 Review of the Insurance Securitization Market By: Morton N. Lane, President and Roger G. Beckwith, Vice President The past 18 months of frenetic activity in the Insurance-Linked Securities (ILS) market seems to have come to an end. One is tempted to ask, is that all there is? Is this a halt, or a pause that refreshes? The precipitating causes of the 2006 rush of activity were the losses from Katrina, Wilma and Rita. The end seems to have been precipitated by a) the absence of significant 2006 losses, b) the restoration of capital1 equilibrium and finally, c) the actions of the state of Florida to abandon private markets and to nationalize (is that the correct word for state level application?) catastrophe risk. The first two of these reasons are to be expected, the last is a bit of a shock to the reinsurance body politic. And, worse, it may have been entirely unnecessary. Politicians were stampeded to action by high insurance prices within the state during 2006. However, a look at the chart reproduced here as Figure 1 shows quite clearly that prices peaked in July last year and have been declining ever since. With another loss free year they show every prospect of a return to pre-Katrina levels. But if there is another violent year, why should they? It will reflect a new reality, as subsidizing Florida taxpayers will no doubt learn to their cost.  To read the full version of this article with graphs: Download the PDF Here

 

Recapitalizing Reinsurers - A Never Ending Story?

January 31, 2007 By: Morton N. Lane, President The early weeks of 2007 present a study in contrasts for both the property catastrophe reinsurance and insurance industries. The reinsurance industry has experienced a flood of new capital (of which more below) and has seen premiums turn lower from their June 2006 peak. In contrast, the insurance industry is galvanized by the actions of regulators, particularly in Florida, who have essentially mandated lower premiums for their citizen home-owners and decided to provide reinsurance capital via the enforced subsidy of their taxpayers. The reinsurance industry is largely unregulated, largely off-shore and driven by competitive market forces; the insurance industry is heavily regulated (by States) and appears to be largely driven by domestic State politics. In Florida the regulators want to extend the reinsurance that is provided at fixed prices from Citizens (their assessment and public backed insurer of last resort). Question is, which solution is likely to lead to lower prices over time (if they indeed should be lower) and which provides the healthier source of reinsurance capital? The answer seems self evident to us, and part of the reason for that is the track record of the reinsurance industry during the last 15 months. The amount of capital raised and the innovation that has been displayed is impressive. The purpose of this paper1 is to review and record that story.  To read the full version of this article with graphs: Download the PDF Here

 

Of Sidecars and Such

January 31, 2007 By: Morton N. Lane, President Sometimesit happens that one word so captures the zeitgeist that it isimmediately adopted into the language as if it were always present. Soit was with the word “sidecar” at the beginning of 2006 in the languageof the reinsurance world. In the scramble to replace capital lost inthe Katrina, Rita and Wilma (KRW) hurricanes of 2005 a variety of newmechanisms was being utilized; sidecars was one of them. It was notexactly a new mechanism; by our count in the preceding ten yearsbetween $2 and $3 billion of capital had been raised by a mechanismthat would now be called a sidecar. Those forerunners were called by avariety of names, but generically could be called capped quota shares.Since re-branding, the same vehicles have raised some $6.5 billion innew capital in a period of 15 months, see Figure 1. The purpose of thisnote is to record that dramatic development and to lay out an “issuesset” for issuers and investors in these vehicles. To read the full version of this article with graphs: Download the PDF Here