Catastrophe Bonds (cat bonds) reached a new high this year. The total market exceeded $50 billion as insurers sought to find new ways to manage the escalating risk of climate-related disasters.
Artemis, an insurance-linked securities market tracker, reported that sales of these specialised bonds which cover extreme weather events like hurricanes, earthquakes and wildfires rose 7% in 2024 to $17,7 billion.
As the financial costs of climate change continue to rise, insurers and investors are increasingly turning towards cat bonds.
Cat bonds are increasingly popular with insurers due to inflation and climate change
Inflation and weather extremes have increased, which has led insurers to rely more on cat bonds.
Insurance companies are now exposed to higher payouts in the event of disasters due to the rising cost of reconstruction.
Climate change has also intensified secondary hazards like wildfires and tornadoes.
Twelve Capital, an investor based in Zurich, estimates that secondary perils are responsible for the majority of the $50 billion insured losses this year. This shift away from peak events such as hurricanes is a sign of a changing insurance landscape.
The market is growing, but challenges still remain. Secondary perils can be harder to model than established risks such as earthquakes, which makes it difficult to estimate potential losses.
This uncertainty has led to many investors preferring bonds tied to singular events, such a Florida hurricanes, to aggregate loss structures.
Allstate Corp., with its $650-million cat-bond deal in this year, which was the second largest in its history, demonstrated the growing size of the market.
The agreement includes reinsurance for storms, wildfires and other natural perils. This represents an 86% increase compared to the initial target.
These deals show the increasing appetite for catastrophe-linked instruments as insurers look to transfer risk in an unstable environment.
Investors make high returns amid a hardening of the insurance market
Cat bonds continue to provide attractive returns and outperform many fixed income assets. Investors are expected to earn returns in 2024 of 16% after a record yield of 20% in 2023.
The yield on these bonds is a combination of a risk-spread and the current money-market fund rates, which have risen to between 4% and 5% — a significant increase from near-zero during the pandemic.
This year, the sharp fluctuations in risk spreads have added another layer of complexity.
These changes are often caused by sudden shifts in the capital availability, rather than underlying risks.
Analysts expect the risk spreads to stabilize at 5%-7% by 2025, down from highs of 8.4% this year.
Fitch Ratings attributes sustained demand for cat bond to the hardening of reinsurance markets. These markets are characterized by higher premiums and tighter underwriting requirements, as well as reduced coverage capacity.
According to Twelve Capital and Plenum Investments, cat-bonds investors can expect returns between the low single digits and high double digits in 2019.
Cat bonds are used by insurers to reduce losses from smaller-scale, frequent hazards like wildfires and storms.
Even though these events individually may not have a large impact, their cumulative effect could result in significant losses.
As the insurance industry adapts its risk landscape to change, catastrophe bonds play an increasingly important role in managing peak and secondary perils.
This post Catastrophe bond issuance surges, pushing the market to $50 billion by 2024 may be updated as new information unfolds.
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