Tiger: Hurricane Ian is a material, non-linear event

Insurance-linked securities (ILS) can improve the reinsurance industry’s’ ability to attract capital in the wake of Hurricane Ian, Philipp Kusche, global head of ILS & Capital Solutions at TigerRisk Partners, said in an interview with Bermuda:Re+ILS.

“Even before Hurricane Ian, there was a great opportunity for ILS markets to be helpful in dealing with some of the capacity shortages the industry is experiencing, but it can only do that if it has sufficient capital. So how to bridge that gap is key,” Kusche said.

The challenge for the ILS sector is traversing a period of “trial and error” to connect those fundraising concerns with an opportunity for it to grow.

“It’s a question of how those concerns filter through in the near term from a capital management perspective,” he said.

TigerRisk doesn’t yet have a “house view” on the industry estimate for insured losses that it will incur from the recent hurricane, but it “certainly seems to be a material event, no matter if it’s a loss of $30 billion or +$60 billion”, Kusche said.

It is also clear that its effect will be non-linear, meaning, the bigger the event gets, the more product areas within the ILS market will be impacted.

“If it’s on the smaller side, then the impact will be mainly on the retro, industry loss warranty and private ILS markets,” Kusche said, “but the bigger it gets, the bigger the impact there will also be on the cat bond market.”

If the insured losses do reach the $60 billion mark or more, there will be “over-proportional” impacts including “collateral trapping” which will become a big issue again this year, he continued.

“If you multiply the insured loss by a factor of two or more, which is often used to determine collateral trapping, then you’re looking at a pretty material event even at the lower end of the industry ranges.”

Pause in talks

There will be a “pause” of another few weeks in a lot of the fundraising discussions, he said, until there’s more clarity around what the impact of the hurricane actually is on managing those products. “That then begs the question: how successful can fundraising be before year-end?”

Fund managers are showing a mixed response to the hurricane and reinsurers will need to wait and see how that sentiment plays out. Nevertheless, more demand for products and less supply of capital will mean changes to the pricing environment, which in turn could attract more capital, Kusche said.

“That may be the usual ILS capital from pension funds and other allocators, but also opportunistic capital from hedge fund, credit fund or private equity investors who might find ILS investments suddenly more interesting than a year ago,” he said.

Whatever the sources of capital, the macroeconomic environment also plays a role, he said, since pension funds “certainly have other things on their mind outside of ILS right now”. Hurricane Ian has landed on top of that, further slowing down their allocation decisions, he added.

“I don’t think there’s necessarily one specific area where new capital is going to come from, but anyone with ILS knowledge will likely be targeted again,” he said.

The gap has widened

Even before Hurricane Ian, the reinsurance industry had expected to see a demand increase in the $20 to $30 billion range from a limit perspective, according to Kusche.

“That’s across the traditional and ILS market and is largely being driven by inflation which increases insured values and in turn limit needs. Across Monte Carlo discussions, those numbers were cited again and again because, even before Ian, there was a relatively large capacity demand and supply gap. With Ian, those numbers now have become even larger and the gap has become wider,” Kusche said.

There is an opportunity for the ILS market to fill some of that demand/supply void.

“That has to be compared against the six years now of not having great returns within many areas of the ILS space,” he said.

“If you’d asked investors and ILS managers, ‘what’s better, a big hurricane or a quiet year?’, they probably would have voted for a quiet year. Ultimately, the demand and supply gap would still be large enough to grow meaningfully on the ILS side. Hurricane Ian has increased that opportunity, but it’s also increased the difficulty in fundraising and meeting the fundraisers’ expectations.”

Stable to negative outlook

Bermuda’s annual conference for the ILS sector, Convergence, which took place this month, would have been a celebratory event, he said, given it will be the first to be held since the start of the pandemic. Instead, there will be a sober assessment of how ILS can help with the needed capital at a societal level, especially in the context of climate change.

“The ILS sector has probably moved from a celebratory mood and a partially positive outlook, to a somewhat stable to negative outlook just on Hurricane Ian,” he added.

How to turn that back into a positive outlook is a question for the entire industry.

“Ultimately, the risk transfer sector just needs to continue to develop. That can be through increased pricing or structural changes but, ultimately, ways need to be found to attract more capital to the space and to meet the needs of our clients,” Kusche said.

On the role of ILS in climate risk, he said “some individual fund managers are quite mindful of how portfolios are being constructed”.

How products should be priced and which areas to focus on go “hand in hand”, he added.

“Florida is a good example where to increase property resilience can be further improved or move homeowners into less exposed areas. Insurance could be a catalyst to drive some of that change.”

He continued: “Climate change is a topic for the broader reinsurance industry, but also one the biggest questions we hear from investors.”

Quantitative view

The ILS sector is particularly helpful from a “quantitative perspective”, he said.

“The traditional reinsurance industry has less direct dialogue with institutional investors and so the ILS sector can offer added value by offering risk quantification and also articulating to investors the potential impacts on the industry.”

On the wording in policy documents of secondary perils, the ILS market has probably been a “leading force” in trying to make structures “cleaner and more efficient”, he said.

He explained: “I think you need to find a balance between creating a product that an insurance company can actually use and lay off some of the risk, versus the reinsurance company retaining all the risk and only passing on certain pieces to the reinsurance ILS market. Finding that balance is a discussion process, and the ILS sector can provide input on terms and conditions in policies, and on how structures can actually be efficiently put together.”

Larger platform

TigerRisks’ strategy will not change after its acquisition—which has not closed yet—by Howden Group Holdings, he said.

“Interaction with investors has always been our strong objective and it has accelerated further after Hurricane Ian. With Howden, we envision that approach will remain very much the same but be on a larger platform. We have always prided ourselves on having a good dialogue with a lot of institutional investors because we also have a large-scale corporate finance practice.

“So there won’t be a quantum change from the merger. Howden is obviously a big organisation with a very strong analytics team, which will be helpful in giving us more resources to play an even more meaningful role in the ILS sector,” he concluded.