introduction to catastrophe bond issuance

Introduction to

Catastrophe Bond

Issuance

Jeff Boyd, CCM

Catastrophe Bond Fundamentals

Selecting the Right Trigger

The Issuance Process

The Catastrophe Bond Market

Agenda

Insurance

Alternative

or Supplement

Balance Sheet Protection

Catastrophe

Risk Financing

Liability

Reduction

Liquidity Resilient

Re/Development

Disaster Response

& Recovery

Pandemic Prevention

Typical Structure of a Catastrophe Bond

Sponsor

Special-

Purpose

Reinsurer

Re/Insurance Agreement

Recoveries

Premium Payments

Investor

Offering Circular

Principal (at maturity)

Coupon Payments

Purchases Bond

Collateral

Account

Investment

Risk-Free Return

The Value Proposition of Catastrophe Bonds

Sponsor Benefits

Diversification of reinsurance sources

Competing capital sources & potential

cost savings

Collateralized protection

Highly customizable

Multi-year coverage & price stability

Investor Benefits

Diversifying asset class

High coupons relative to similarly rated fixed-

income products

Tradable, liquid notes

Low-volatility instrument

Catastrophe Bonds Are Not Highly Correlated with Financial Markets

Source: Bloomberg

Swiss Re

Cat Bond Index

Fidelity

US Bond Index

S&P 500

1.220 0.825 0.836

1.280 0.858

1.143 1.498

024681012141618202224262830323436

1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

Annual Issuance Amount (USD Billions) Number of Issuances

Catastrophe Bonds Have Become an Integral Strategic Risk-Transfer Tool

Sources: AIR, Artemis

Katrina

Record

Tornado

Losses

Financial

Crisis

Tohoku and

Christchurch

Indemnity

Modeled Loss

Industry Loss Index Parametric

Hybrids

Defining and Dealing with Basis Risk

Basis risk is the difference between the losses you wish to protect against and the recoveries from the transaction

- Minimizing basis risk helps ensure you will receive a recovery when

you really need it - Optimize your structure to maximize the fit between your loss potential

and the transaction’s recoveries

- Lower basis risk is preferred by sponsors - Speedier loss determination and more transparent triggers are

preferred by investors (and sponsors) - There are trade-offs between time, transparency, and basis risk with

each trigger option

1st Generation

Parametric

(“Pure Parametric”

or “Cat-in-a-Box”)

2nd Generation

Parametric

(“Parametric Index”) Indemnity Modeled Loss Industry Loss Index

AIR Can Model All Traditional Cat Bond Triggers as well as Customized Triggers

HAZARD

ENGINEERING

FINANCIAL

Intensity

Calculation

Exposure

Information

Damage

Estimation

Generation

Policy

Conditions

Magnitude &

Epicenter Ground

Motion

Insured

Calculations

First-Generation Parametric Trigger: Pure Parametric or “Cat-in-a-Box”

Second-Generation Parametric Trigger: Parametric Index

)05.0,0max(

,min 1043

jjjjjjj

CapxcxbxaValueEventIndex

Calculation Location Latitude Longitude aj bj cj Capj Peak Ground

Acceleration (PGAj)

Calculation Location contribution to Event Index

Value 1 35.297 136.750 0 0 0 0 0.17 0.00 2 35.297 136.915 0 0 20,993 459.7 0.14 13.16 … … … … … … … … …

1043 … … … … … … … …

Where:

aj, bj, cj, and Capj are the parameters at Location j

PGAj is the Peak Ground Acceleration (“PGA”) at Location j

Each j is one of the 1,043 Calculation Locations (the K-NET

stations), which record PGA

Industry Loss Index: Using Market Share of Insurance Industry

Modeled Loss Trigger: Using Actual Event Characteristics

HAZARD

ENGINEERING FINANCIAL

Intensity

Calculation

Exposure

Information

Damage

Estimation

Generation

Policy

Conditions

Central Pressure &

Landfall Location Wind

Loss to

Catastrophe

Insured

Calculations

Modeled Loss Trigger: Using Actual Event Characteristics

HAZARD

ENGINEERING FINANCIAL

Intensity

Calculation

Exposure

Information

Damage

Estimation

Generation

Policy

Conditions

Central Pressure &

Landfall Location Wind

Loss to

Catastrophe

Insured

Calculations

Exposure Information

Indemnity Loss Trigger: Ultimate Net Loss

Retained

Cat Bond A

Cat Bond B

Layer 2

Layer 1

1st Event Cat

Coverage Program

Hybrid Cat Bond Triggers: Creative Terms

)05.0,0max(

,min 1043

jjjjjjj

CapxcxbxaValueIndexEvent

Origination

(Months – Years)

Structuring

(8 – 16 weeks)

Risk Modeling

Detailed Structuring

Offering Materials

Marketing

(2 – 4 weeks)

Structurer & Bookrunner

Trustee Bank

Risk Modeler

Legal Counsel

Rating Agency

Reporting Agency

Loss Reserve Specialist

Escrow Agent

Claims Reviewer

Risk Modeling - Common Trigger Types

Basis Risk

Indemnity

Parametric

Modeled

Loss Industry

1 year

3 years

5 years

Occurrence Single

Issuance

Program

Catastrophe Bonds Are Highly Customizable

Indemnity Modeled Loss Industry Loss Index Parametric Hybrids

Aggregate

Catastrophe Bonds Complement Traditional Reinsurance & Risk Financing

Retained

Collateralized Cat

Layer 1

Cat Bond A-1

Cat Bond B-1

1st Event Cat

Coverage Program

Cat Bond B-3

Cat Bond A-2

Cat Bond A-3

Cat Bond B-2 Cat

Aggregate

Cat Bond Y-2

Aggregate

Cat Bond X-3

Aggregate

Cat Bond Z-1

Retained

Occurrence Aggregate

The Catastrophe Bond Market

Catastrophe Bond Issuance by Region and Peril

*Multi-peril cat bonds were split into single perils based on their contribution to expected loss

% of Total Outstanding Principal by Peril*

Sum of U.S. Hurricane

Sum of U.S. Earthquake

Sum of European Wind/Quake

Sum of Japan Wind/Quake

Sum of Other

Trends among Triggers and Sponsors

2008 2009 2010 2011 2012 2013 2014 2015 2016

Trigger Type by Issuance Amount

Indemnity Industry Loss Parametric Hybrid Modeled Loss

2008 2009 2010 2011 2012 2013 2014 2015 2016

Ceding Sector by Share of Issued Limit

Private Public

AIR Is the Leading Modeler of Catastrophe Bond Issuances

2008 2009 2010 2011 2012 2013 2014 2015 2016

Modeling Agent Distribution by Issuance Amount ($ million)

AIR’s Team Has a Proven Track Record of Outstanding Service

AIR has been the risk modeler of choice for close to USD 40 billion

of issuance since the inception of the ILS market

Thank you!

jboyd@air-worldwide.com

introduction to catastrophe bond issuance

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