Investors in insurance-linked securities (ILS) appear ready and willing to take on more peak risk-severity catastrophe exposure if the price is right, and the ILS market is primed for growth, according to a leading analyst at Peel Hunt.
Peel Hunt’s team of analysts said investors are looking for evidence that reinsurance rates are now ample, and that’s what needs to be demonstrated now that inflows into the ILS market are becoming more meaningful for real estate catastrophe risk.
Analysts point out that it is not just insurers and reinsurers who have recently adjusted their risk appetite, and getting rid of secondary risks is an example.
The ILS market and its investors have been doing the same, as evidenced by the move up of risk towers, tightening of underwriting terms, reduction in overall transaction risk, and clearer definition of underwriting risk.
But despite this, total ILS assets under management have remained relatively flat over five years or more, hampered by experienced loss activity, some investors exiting ILSs, and others cycling in but on a smaller scale. Capital is trapped, which has been a drag on the industry’s deployable ILS assets since 2017.
As we explained last week, investor interest in mortgage reinsurance and retrocession remains subdued.
But money is flowing into the ILS market, especially cat bonds, while flows into other alternative reinsurance capital vehicles continue to grow, and some mortgage ILS funds have also reported recent success.
Despite recent weakness in spreads in the catastrophe bond market and year-to-date market-to-market multiples above five times expected losses, Pierhunt’s analyst team believes this indicates a higher incentive for investors to achieve and maintain targets returns to allocate catastrophe risk.
“ILS investors are willing to take on more severe (peak) disaster risk at the right price,” the analyst explained.
Further, “We believe that once ILS investors see evidence that PCR rates are adequate and offer attractive IRRs, investors will start putting capital more broadly into PCR again.”
Analysts pointed out that this will have a positive impact on the market and help reduce the undersupply of real estate.
Attention must be paid to the balance of the market, capital supply is still insufficient, but the risk exposure is increasing, which means that the reinsurance market does have room for more catastrophe risk capital to enter than before without causing interest rates to fall significantly.
Regarding the influx of ILS investors into the market, Peel Hunt’s analyst team said, “This will be welcome as the imbalance between supply and demand for real estate catastrophe risk is limiting growth in the underinsured market.”
Some reinsurance programs have been oversubscribed at the time of renewal, but this depends more on the quality and risk of the cedent than the characteristics of the market as a whole, and many cedents are still struggling to secure the catastrophe reinsurance they need ability.
While the balance and dynamics of the market remain in this state, rates should remain unchanged and ILS investors may have the opportunity to see evidence that the IRR is attractive again for catastrophe reinsurance risk.
It remains to be seen what happens if the inflows become more meaningful.
But investors will be looking for disciplined funding and a push from capital managers to set pricing benchmarks, or we will soon see money start pulling out, perhaps as quickly as it is coming in.
While ILS investors are showing a growing appetite for risk, and we are now seeing more and more new investors researching and seeking to understand the ILS market, the desire for adequate returns will not disappear.
Therefore, we suspect capital raising and deployment must be more cautious. Those seen raising capital quickly and deploying cheaply may find their strategies fail to win the long-term investor support they seek.