(Bloomberg) — Investors in catastrophe bonds are bracing themselves for significant losses as the combined destructive power of hurricanes Helen and Milton is set to trigger payouts at levels not seen in years.
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Two weeks after Helen unleashed severe flooding in a dozen states, Florida is bracing itself for the impact of Milton, which on Tuesday regained Category 5 strength on the five-step Saffir-Simpson scale. It is expected to make landfall early Thursday, pushing a wall of water ashore. Millions of people have already evacuated the coast, including residents of the densely populated city of Tampa.
Milton hitting the Tampa metropolitan area as a weak Category 4 hurricane “would lead to one of the largest reinsurance loss events in history,” Florian Steiger, founder and chief executive of Icosa Investments AG, said in an interview.
Steiger says such a scenario would exceed the landfall of Hurricane Ian in 2022. Ian’s impact led to an initial 10% decline in the Swiss Re Catastrophe Bond Index in September 2022, sending shock waves through catastrophe-bond portfolios and triggering an issuance boom as insurers shifted the risk on their books to capital markets.
Tanja Wrosch, head of cat-bond portfolio management at Twelve Capital AG, says if Milton were to hit Tampa as a major hurricane, the catastrophe-bond losses would be “more significant than Ian.” The Swiss asset manager has a $5 billion portfolio, including $3.8 billion in catastrophe bonds.
“A big component from Milton is storm surge — flooding from the ocean,” he said.
Catastrophe bonds, or gate bonds as they are known in the industry, are issued by insurers and reinsurers to provide financial protection against more severe natural disasters. Investors who buy bonds stand to make large gains if a predetermined event does not occur, but stand to lose a large portion of their capital if it does. Those losses are used to cover insurance claims.
Milton and Helen’s potential cat-bond losses would mark a stark turnaround for the debt market, which has been the bedrock of a highly profitable hedge fund strategy for the past year, according to analysis provided by Preakin. The Swiss Re Global Gate Bond Index rose 20% in 2023, undercutting returns in other major credit markets.
In 2022, Ian caused about $60 billion in insured losses. Milton could cause $60 billion to $75 billion in damage and losses, with some models totaling as much as $150 billion, disaster modeler Chuck Watson of Enki Research said in the X Post.
How much cat-bond investors will have to pay to cover Milton’s impact depends on the extent of the damage. Florida Citizens, the state’s last resort insurer, is set to collect about $500 million from one of its Gate bonds, according to a person familiar with the offering.
Gate-bond investors may also be affected by inland flooding from Hurricane Helen. Moody’s RMS estimates that US private market insured losses from Helen will range from $8 billion to $14 billion.
CoreLogic Inc., a disaster-modeling firm in Irvine, California. “Helene was a one-in-a-thousand-year rainfall event,” said Jonathan Schneier, director of disaster response, “and it shows the power of a hurricane further inland.”
Investors are exposed to flood-linked losses from Helen by holding cat bonds issued by the Federal Emergency Management Agency. In an emailed response to questions, FEMA said it had transferred $1.9 billion in flood risk to the private sector ahead of the 2024 hurricane season, much of which landed in the cat-bond market.
FEMA said it was “too early to make any predictions” about how much those bonds would trigger. As with other indemnity-style hurricane bonds, the calculation depends on actual losses on the ground, which take a long time to calculate.
“Typically, you’ll get an initial appraisal in two weeks, but depending on the complexity of the loss the speed of payment is typically months to years,” said Rhodri Morris, head of insurance-linked bond analysis at Twelve Capital.
Investors in the $60 billion private market for insurance-linked bonds face higher losses than gate-bond holders because ILS products have lower trigger limits.
There are signs that some cat-bond traders are starting to lose their nerve. On Monday, someone sold a Florida cat bond for just 67 cents on the dollar, Twelve Capital reported.
There’s a lot of “noise” in the cat-bond market right now, Wrosch said. “There are some unfortunate trade-offs.”
(Reviving the second column Milton regains type 5 strength)
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