A catastrophe bond (CAT) is a high-yield financing instrument designed to help insurance companies raise money in the case of a natural disaster. A CAT bond allows the issuer to obtain funds only if certain events, such as an earthquake or tornado, occur. The need to pay interest and refund the principal is either suspended or totally canceled if an event covered by the bond triggers a payout to the insurance provider.
What is the purpose of catastrophe bonds?
Insurance and reinsurance businesses can use catastrophe bonds to transfer catastrophic risks by issuing securities. These securities pay an investor a premium; if the event occurs, the insurance provider will reclaim the principal to cover the event’s costs.
WHO IS ELIGIBLE TO ISSUE CRISIS BONDS?
Special purpose reinsurance companies based in the Cayman Islands, Bermuda, or Ireland issue the majority of disaster bonds. To safeguard buyers, most usually insurers (called “cedants”) or reinsurers, these organizations typically participate in one or more reinsurance treaties (called “retrocedents”). This contract may be structured as a derivative if one or more indices or event parameters (see below) “trigger” it rather than the cedant’s or retrocedent’s losses.
Some bonds provide protection against multiple losses.
Atlas Re (the first-second event bond) was issued in 1999.
Atlas II, the first third-event bond, was issued in 2001.
Bonds triggered by fourth through ninth losses have already been issued, including Avalon, Bay Haven, and Fremantle, all of which use tranching technology to track a basket of underlying events.
Gamut was the first actively managed pool of bonds and other contracts (“Catastrophe CDO”), with Nephila as the asset manager.
What are catastrophe bonds, and how do they compare and differ from traditional corporate bonds?
Companies sell catastrophe bonds to protect themselves from major disasters, and investors profit if the underlying event does not occur. These bonds are not like traditional bonds, and investors should learn everything there is to know about them before investing.
Which bond is the best?
Government, corporate, municipal, and mortgage bonds are among the several types of bonds available. Government bonds are generally the safest, although some corporate bonds are the riskiest of the basic bond categories. Credit risk and interest rate risk are the two most significant concerns for investors.
What is the best way to price a disaster bond?
Within a risk-pricing paradigm that deals with both systematic and non-systematic risk, a formula for the spread of Catastrophe Bonds is derived. The following is the formula: (EL)(1/) (EL)(1/) (EL)(1/) (EL)(1/) (EL) EL is the Expected Loss expressed as a percentage, and 1 is the Risk Aversion Level (RAL).
Can you form a bond with a kitty?
Bonding with your cat doesn’t have to be tough, however it will probably take some time to figure out what your cat appreciates.
“The greatest approach to bond with your cat is to figure out what your cat appreciates and then do that,” explains Koski. From food and snacks to the wide range of toys available, your cat is bound to have a favorite. If you’ve never observed these preferences before, here is a fantastic place to start.
It’s just as vital to know what your cat doesn’t like as it is to know what they do. According to Koski, your interactions with your cat should be predictable, and you should know things like where and how long they want to be petted.
“One thing to bear in mind is that trust is really important to cats,” Koski explains. “They need to understand that they have a choice whether or not to interact with their humans, and that when they do, those interactions must be beneficial.”
While watching TV, you may want to pet and snuggle your cat, but if your cat darts away after a short period, let them. Never put pressure on your cat to be affectionate or interact with you.
“Respect your cat’s decision not to be touched,” Koski advises. “Let your cat go once they’ve had their fill of being handled. This will offer them a sense of control, as well as a sense of trust in you.”
Who is eligible to purchase cat bonds?
Cat bonds are typically purchased by institutions rather than individuals, such as hedge funds, mutual funds, and pension funds. Indeed, a retail investor who invests in only one or even a few cat bonds may be underserved.
In insurance, what does CAT stand for?
A catastrophic event property deductible (sometimes known as a “CAT deductible”) is not the same as a standard property insurance deductible. CAT deductibles are a considerable increase in the policyholder’s out-of-pocket expense and apply to specific hazards (e.g., named storms, hurricanes, floods, and earthquakes) rather than all risks. CAT deductibles first appeared as a mechanism for insurers to offer property insurance in high-risk locations while keeping the coverage inexpensive, however policyholders are likely to differ on this point.
Format of CAT Deductibles
A CAT Deductible’s format will be as unique as the underwriters, agents, brokers, and policyholders who negotiate it. A high set dollar amount deductible, a deductible specified in terms of National Flood Insurance Program (“NFIP”) limits, and a percentage deductible are the three most common types of CAT deductibles.
Fixed Dollar Amount Deductibles
A huge fixed cash figure might be used to represent a CAT deductible. The fixed cash amount will be applied to a specific piece of property, per place, or, more typically, per occurrence.
NFIP Limits as a Deductible
- “equivalent to the maximum NFIP limitations allowed per structure and its contents, regardless of whether they were purchased.” OR
These rules have different meanings, and the potential impact on a policyholder is significant. Courts have debated how to interpret this language. The NFIP offers a variety of programs and maximum restrictions. Consider the financial implications of a $500,000 maximum allowable limit deductible per building and $500,000 for its contents, or $1,000,000 per building/contents. Because the NFIP does not cover time elements, there is frequently a time element deductible in addition to the significant deductible (e.g. $100,000).
The severity of this deductible method should be mitigated to the greatest extent possible with a deductible application road map that includes, but is not limited to, the following elements:
- The policyholder has the option to insure property with the NFIP, but not the obligation.
- Because the NFIP is fairly limited in terms of the property insured and how it is insured, losses that are not recovered under the NFIP policy should be protected in the flood coverage on the property policy (unless otherwise excluded) (e.g. actual cash value basis).
- Permission to use the National Flood Insurance Program (NFIP) as underlying insurance to decrease or eliminate the flood deductible on a property policy.
- If the flood deductible refers to the “amount recovered under the NFIP” rather than the “amount available under the NFIP,” then additional boundaries should be established when the amount collected exceeds or falls below the flood deductible.
- Furthermore, as stated in the NFIP, this determination should be made on an occurrence basis rather than a “per building” one.
Percentage Deductible
One of the most typical ways to express a CAT deductible is as a percentage. Initially, percentage deductibles were used in earthquake-prone areas. After Hurricane Hugo (1989) and Hurricane Andrew (1992), hurricane percentage deductibles in coastal locations became common in the 1990s (1992). This deductible method is applicable to risk profiles that are vulnerable to named storms (such as hurricanes, typhoons, tropical storms, and cyclones), earthquakes, floods, and even traditional wind and hail occurrences.
Percentage CAT Deductible Criteria
The value of the property and business income and excess expense (“BI/EE”) are both multiplied by a percentage in this method. The other criteria, on the other hand, will distinguish one insurer’s application of a percent deductible from that of another insurer. Other criteria could include, but are not limited to:
Property Values
The property values used to determine the percentage-based deductible can differ. Is the deductible, for example, calculated using the following formula:
- Even if no claim is made for any of the property or BI/EE, the total location’s property and BI/EE values?
- Damaged property’s “per unit” value (typically defined as an individual building or structure, its personal property, inventory, business disruption values, and property in a yard)?
- Regardless of whether the property is damaged or a claim is filed, all property and BI/EE are at risk? OR
- Regardless of where the property is located or if a claim is made, the complete statement of values?
Obviously, the computation result will differ greatly based on the insurer’s methodology.
Valuation Date of Property Values
The property’s value date is also taken into account. The difference between the valuation periods in the deductible calculation may or may not be significant in some situations. The importance of this distinction becomes obvious when the economy develops and property and BI/EE values rise.
- Are the property values from the statement of values on file with the insurer at the time of the policy’s inception utilized in the calculation?
Geographic Area
The property’s location in terms of geographic region must also be evaluated. Hurricane and named storm geographic qualifiers are described in terms of “wind tiers,” whereas flood and earthquake geographic qualifiers are expressed in terms of “zones.”
Coastal areas around the Gulf Coast and the Atlantic Ocean, known to as Tier 1, will have a larger percentage deductible (e.g., 5%) than areas 150 miles or more inland, referred to as Tier 2 or Tier 3. (e.g. 1-3 percent ).
Geographic areas can be specified as a full state (e.g., Florida) or by counties, and they are categorized into these hazard classes in order to apply deductibles and insurance restrictions.
Earthquake and flood classifications are similar geographically.
Property in high-risk earthquake zones like as Alaska, Hawaii, California, New Madrid, and the Pacific Northwest will have a greater deductible than property in other parts of the country.
Property located in high-hazard flood zones, such as A or V, will have a larger deductible percentage than property located in an area of the country that rarely floods.
Timing
The application of a CAT deductible may be affected by the timing of a loss, damage, or destruction. The following timing conditions may be included in a CAT deductible:
- The hour event takes place. If loss, damage, or destruction occurs within 24 hours of a storm being named by an approved weather service, the CAT deductible may apply. If the loss, damage, or destruction occurs within 72 hours of a named storm being downgraded, the CAT deductible may apply.
- Terms from different policies overlap. A catastrophic catastrophe could occur near the end of the policy era, overlapping with the start of a new one. If this happens, an insurer’s policy may have a specific provision stating how it would be applied. Regrettably, some of these provisions may be detrimental to a policyholder.
- Occurrence is defined as the occurrence of anything. “Any one loss, disaster, tragedy, or sequence of losses, disasters, or casualties arising out of one event,” according to a standard definition of occurrence. The term “occurrence” can be expanded to span a time period of one hour. For example, a 72-hour period for named storms and floods, or a 96-hour interval for earthquakes. For the purposes of calculating limitations and deductibles, all loss, damage, and destruction caused by the defined risk that happens during this hour period will be considered one event.
Is an hour period beneficial or harmful? It is debatable. What if a designated storm lingers for five days over a certain location? Because policyholder risk profiles differ, a “good or bad” analysis should be undertaken on a case-by-case basis.
Hurricane or Named Storm Does It Matter?
The policy will specify whether a storm is classified as a hurricane or a named storm. When property loss, damage, or destruction is caused by a hurricane rather than another weather-related occurrence, a hurricane CAT deductible will apply. “A hurricane is defined as a storm with maximum sustained winds of 74 mph,” according to NOAA. A hurricane, as well as other named storms such as tropical depressions and typhoons, are considered named storms.
When loss, damage, or devastation occurs, it can be difficult to establish whether the storm is a hurricane or another storm category.
This might make the claim adjustment procedure difficult and frustrating.
When a hurricane is downgraded to a lower category, insurance and government regulators may advise insurers on which deductibles to use.
Hurricane Sandy, for example, was a hurricane as it moved along the Atlantic coast.
Before making impact, the storm was reduced to a tropical storm.
The Governors of New York, New Jersey, and Connecticut objected with several insurers that applied their hurricane CAT deductible to this lower category storm.
Many insurers prefer to employ a named storm CAT deductible rather than a hurricane CAT deductible to avoid this problem.
Because of the named storm definition, the CAT deductible must be used on a larger scale than just a hurricane.
Caution: Other Wind/Hail Deductibles
Other wind/hail storms may also necessitate a CAT deductible approach, according to some insurers. This is a departure from the norm in the sector. Other forms of storms can be found all throughout the country. While an insured’s risk profile is always a consideration in setting the deductible structure, policyholders should be aware of whether their insurer mandates a CAT deductible approach to common storms.
Aggregate Deductibles
Some insurers will negotiate an aggregate and trailing or maintenance deductible with a policyholder who has a high property deductible. The aggregate deductible will set a limit on how much a policyholder will pay in high deductibles over the course of a policy year. Once the aggregate deductible threshold is achieved, the deductible for subsequent loss events during that policy year is dramatically reduced (e.g. $25,000). The combination of an aggregate deductible and a trailing or maintenance deductible varies by insurance and isn’t available from all.
Stacking Deductibles
Deductibles should not, in theory, stack in a policy. However, there are situations when this is unavoidable. Policyholders should be aware of how their policy will react if more than one deductible is applied following a loss. Because of the significant cost-shifting to the policyholder, this is especially critical when a policy contains one or more CAT deductibles.
During a named storm, for example, a policyholder may suffer losses due to wind, flood, and even other hazards such as looting, fire, or explosion.
There is a lot of debate about how two or more deductibles affect an occurrence.
Deductible provisions are not stand-alone provisions; they apply to all insurance provisions.
All Other Perils Deductible When There is No Property Damage
Property loss or BI/EE values indicated on a Statement of Values are not usually the result of catastrophic events. In some cases, a policyholder’s loss will solely effect the policy’s sub-limits (e.g. debris removal of landscaping). Insurers may be able to apply the CAT deductible to this type of loss if the deductible wording allows it. If at all possible, the deductible wording should be changed to apply in this scenario to the reduced “all other risks” deductible. This isn’t a popular strategy, and it isn’t available in many cases.
Regulation
Consumers are protected by state laws and insurance regulations. When an insurer binds property coverage in a state, it must adhere to state rules and regulations. Deductible clauses may be declared null and void if state laws and regulations are not followed.
While non-admitted insurers (excess and surplus lines) have exclusions or carve-outs in laws and regulations, it cannot and should not be believed that non-admitted insurers have no responsibility to consumers.
It would be a mistake to assume this assumption.
Conclusion
Policyholders have a significant cost-shifting burden as a result of CAT deductibles. The wording of the policy is critical in determining the financial impact of large deductibles. It is not to be presumed that all parties will perceive language in the same way.
How are cat bonds bought and sold?
Through severe financial market dislocations, such as the dot-com bust and the credit crisis, CAT bonds have traded continually at non-distressed prices. Prior to the credit crisis, however, there was little visibility into the volume and pricing of CAT bond secondary market transactions.