Cat bond market suffers one of its biggest non-loss event weekly declines: Icosa

The catastrophe bond market recently suffered one of its most significant weekly declines outside of the US hurricane season, with industry-index trigger cat bonds leading the way and almost all pricing down, Florian Steiger, CEO of Icosa Investments has said.

Steiger noted that the benchmark index for the catastrophe bond market, the Swiss Re index, suffered a significant loss of -0.44% in a recent week, as the effects of the spread widening that has begun took hold.

In particular, Steiger notes that industry-index trigger catastrophe bonds suffered the biggest declines, across the entire stock of outstanding bonds in that structure.

Steiger’s firm Icosa Investments, a specialist catastrophe bond investment manager, reported that, “This recent dip was not triggered by a natural catastrophe. Instead, it reflects a market-wide repricing of the index-linked cat bond segment.”

As we’d reported yesterday, the spread widening recently seen in the catastrophe bond market broke the longest streak of positive returns for the UCITS catastrophe bond fund index.

The catastrophe bond market had been experiencing spread tightening through 2024, as supply-demand dynamics drove pricing across the primary and secondary market.

The narrowing of catastrophe bond spreads was seen as both evidence of abundant investor demand for the cat bond asset class, as well as a signal that supply and demand were not balanced in the market, something that was expected to become more stable as supply of new cat bonds increased.

But then a reversal occurred, with spread widening seen through most of April and into the first week of May 2024, alongside more balanced supply and demand in the market, which some have attributed at least part of the widening trend to the latest hurricane risk model update from Moody’s RMS.

Steiger has analysed the market and found that industry-index trigger catastrophe bonds have repriced almost across the board.

“After significant spread tightening, both in absolute and relative terms, we cautioned that a correction was necessary to keep this segment appealing to investors,” his firm Icosa explained. “As index-linked cat bonds are highly correlated, the recent issuance of just one new cat bond with significantly increased premiums was enough to trigger such a broad market correction.”

Back in early April, before this spread widening began, Steiger of Icosa had reported that with spreads for industry-loss index trigger catastrophe bond instruments so much tighter, indemnity cat bonds looked relatively more attractive for the first time, which necessitated a rethink about how cat bond portfolios are constructed.

Icosa notes that “cat bond investors reacted to this dislocation” and that a newly issued index-linked cat bond could only get issued at significantly higher spreads compared to where bonds were trading in the secondary market recently, by which the company could be referring to either the Kendall Re Ltd. (Series 2024-1) or Atela Re Ltd. (Series 2024-1) transactions, which both priced up relatively significantly.

“Since most index-linkers have nearly identical structures, this forced a repricing of almost all index-linked cat bonds, which make up around 22% of the entire cat bond market,” Icosa explained.

Adding that, “Index-linked instruments have in some cases lost up to 10% of their value, thus resulting in this unusual negative performance of the cat bond market.”

You can see all index-linked catastrophe bonds by visiting our Deal Directory and filtering it by trigger.

Steiger noted that such volatility in the cat bond market is very rare unless caused by natural catastrophe events.

He has also noted that the current state of the market, with these depressed prices for certain cat bonds and wider spreads across the market, presents a buying opportunity for investors.

Given the abundant new issuance, liquidity in the cat bond market has reduced which has resulted in some of those issues in pricing of new deals, as well as the spread widening effects seen.

We understand that some cat bond fund managers with capital to deploy from inflows are taking advantage of the current situation.

Icosa also noted that price development in Q2 so far is the second-worst ever seen for the quarter, thanks to a continuing sell-off in industry-loss index trigger catastrophe bonds.

How much of this is down to the impending RMS model release, that we discussed a week ago, remains to be seen. But, with the market repricing, it does suggest a higher risk-aversion to these deals at this time, or at least a demand to be paid more to hold them.

These market movements are more than noteworthy, Icosa Investments explained, saying they open potentially significant buying opportunities.

Icosa Investments went on to add, “Pricing in the cat bond market, already favourable due to record new issuances, is further bolstered by these recent developments in index-linked bonds. This combination is expected to support strong performance generation in the foreseeable future.”