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Reinsurance Strategy – Part 2 of 3

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We continue our discussion on the reinsurance strategy…
Today, the Insurance-linked Securities (ILS) market is close to $100B and it has expanded beyond just catastrophe bonds to other related securities such as collateralized reinsurance contracts.  These contracts are individually negotiated and have twelve month terms.  Unlike catastrophe bonds that have public marks, there is no public market exposure with collateralized reinsurance contracts and thus no correlation.  Without insurance-linked securities, it would be near impossible to own property in areas subject to natural disasters without risking significant personal financial losses as the insurance coverage wouldn’t exist.  In addition, the ILS market exploded as an attractive investment option after 2008.  ILS positions were some of the only investments to generate positive returns during the credit crisis.  The income streams stemming from reinsurance collateralized contracts provided a stable return stream despite the dislocation across the equity and credit markets.

Insurance-linked securities provide a needed capital solution for property owners to insure their homes.  All while enabling investors access to a return stream that has no impact from broader macroeconomic factors or the publicly traded markets.  As such, reinsurance and ILS add real world tangible benefits to everyday people while delivering a proven and tested track record of uncorrelated returns.  Investors would be wise to take advantage of this diversification benefit as the market continues near all-time highs while interest rates remain depressed throughout the world.

Recent storm activity over the past two years has tempered demand for ILS securities and accordingly, we are seeing another shift in the industry that make this an extremely compelling entry point for new ILS investors.  Over the last decade, as hedge funds and other ILS investors entered the market in more scale, premiums dropped as competition for dollars pressured supply.  After the past two years however, lower premiums, and substantial strategy losses stemming from an unprecedented level of events over such a short period have led to significant redemptions from ILS strategies.  As a result, premiums in the industry have now reached five year highs, representing a significant uptick in potential returns in the near term.

In any event, the question remains whether climate change will have a significant impact on weather events going forward…

Stay tuned for Part 3 of this series.

For more information on reinsurance and other alternative investment strategies, please contact me.

Frank Burke, CFA, CAIA
Chief Investment Strategist, PPB Capital Partners
484.278.4017 Ext. 108

Photo Credit: © 578foot | Stock Free Images
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