Fueled by the abundance of capital in the insurance-linked securities (ILS) market, many sponsors have been able to secure favorable rates through indemnity triggers. As a result, sponsors can bypass the basis risk inherent in index triggers with little incremental expense. But sponsors face a trade-off in making the decision to use indemnity triggers: They may have to reveal proprietary information that can be crucial to competitive advantage.
Since the first increase in the use of indemnity triggers before the 2008 global financial crisis, ILS market participants have discussed the information that investors need to analyze indemnity-triggered catastrophe bonds properly, including the sponsor’s:
- underwriting philosophy
- claim-handling practices
- systems and data quality
Data quality and other internal challenges have made index triggers a welcome alternative for some sponsors. Yet sponsors that could comfortably reveal such information without concerns about increasing their cost of capital may see value in index triggers instead.
Since index triggers relate to industrywide losses rather than the sponsor’s individual loss experience, investors have no reason to dig into such issues as claim handling and underwriting, allowing the sponsors to protect that information — and the competitive advantages they derive from it.
The Florida reinsurance renewal is coming and with it the prospect of an active May in the catastrophe bond issuance market. Many expect new sponsors, following momentum from last year. Already in 2014, several catastrophe bond market debuts have occurred, including Gator Re and Riverfront Re in the first quarter and Citrus Re this month. While unique risk profiles and the prevailing low cost of cover may make indemnity triggers seem attractive, leaping to such an alternative could cost new sponsors the opportunity to protect the information they use to get an edge on the competition.