ILS in APAC: A growth story in the making
Aon Securities’ Jordan Brown and Yusuke Kikuchi provide an update on the developments taking place around ILS in Asia Pacific.
How is ILS assisting cedants globally given conditions in the traditional reinsurance marketplace?
Jordan Brown (JB): The traditional reinsurance market obviously hardened after Hurricane Ian and our global client base experienced increased pricing, higher retentions and a narrowing of terms and conditions at each of the key renewal periods. Additionally, several reinsurers significantly reduced their line sizes or withdrew from certain markets completely, which placed significant pressure on rates. Further, increased demand for reinsurance from cedants given persistent high inflation, exposure growth and model updates saw many cedants look to the capital markets for either complementary capacity or additional limits. While transactions placed into the ILS market were not immune to scrutiny on terms and conditions and increases in pricing, they were certainly successful in alleviating some of the pressure generated from the ‘perfect storm’ that was brewing in the traditional market. The ILS sector has a more than 25-year track record of providing effective risk transfer solutions to our clients and we fully expect the market to continue to support our clients through various market cycles.
Yusuke Kikuchi (YK): Large (re)insurers have significantly reduced the amount of capacity they provide to the Japanese market, due to their shareholder equity being decreased by the impact of interest rate increases on their existing fixed income assets. This could not happen to catastrophe bonds or the ILS market, because the capacity is fixed for a multi-year term for the duration of the bond. In fact, the interest rate increases have been beneficial to ILS investors where there is a floating rate component to the underlying securities.
This year has been highly successful for ILS issuance. How has Asia Pacific (APAC) contributed to this performance?
JB: That’s right – 2023 has been a record year to date in terms of issuance with over $10bn of completed primary issuance volume and a very robust fourth quarter pipeline. It has been pleasing to see numerous clients come to the market for the first time, including Korean Re, which accessed ILS markets through a fronted structure, and Toka Tū Ake EQC, which was able to execute the first transaction covering New Zealand risks on an indemnity basis and the first NZD-denominated catastrophe bond. Including a transaction for Zenkyoren, the ILS markets assumed over $350mn of diversifying APAC exposure in cat bond format.
Are there any areas of innovation in alternative capital that will assist APAC cedants?
JB: The ILS market, and specifically the cat bond market, is currently extremely well capitalised as investors have been able to generate record returns and source new institutional capital. Additionally, the market remains highly concentrated to US peak perils and there is an ongoing demand from investors for exposures to diversifying peril regions. The combination of both these dynamics provides for an environment in which well-structured transactions that provide diversification can be executed efficiently – which ultimately leads to innovation. APAC is obviously a large region with each country having idiosyncrasies regarding purchasing behaviour, regulatory environment and ultimately the underlying exposure. The investor base certainly understands and recognises this, so I expect we will see innovation in terms of structures that allow APAC risks to be ceded to the ILS markets. This is not limited to nat cat for insurance companies, but also corporates and public sector clients across all lines of business, whether its cyber, life or health, using either indemnity or parametric triggers.
What key developments do you expect to see next year in APAC?
JB: The importance of the ILS market in the context of the entire reinsurance industry will continue to grow and this will ultimately have a positive impact for cedants in the region. Whether it’s further development of risk quantification tools, the continued significance of the impacts of climate change or increased acceptability by regulatory bodies, we expect 2024 to be a year of growth and development in APAC. Clients in the region are becoming increasingly educated and familiar with the products available while their purchasing behaviour has become more sophisticated. What we have seen over the last 12 months is a continued evolution in the buying strategies of our clients. Historically, the mentality has been only to explore the ILS market if it provided a cheaper cost of capital. But what we have seen throughout the most recent market cycle is that our clients, especially in APAC, are taking a more holistic and strategic approach to the product, which during a difficult renewal cycle is providing them with leverage across their reinsurance program by enabling them to access a pool of capital that ultimately makes up 15 percent of the global reinsurance market.
YK: There are two aspects to this, and the first is capacity. Due to multiple catastrophe events happening in Japan, we are looking for as much additional capacity as possible. The second is product capability, for instance, cyber catastrophe bonds and new and evolving risk are areas for which companies may need to purchase ILS protection. Capacity, pricing and new products will be key growth areas for the APAC region.
Jordan Brown is managing director (London) and Yusuke Kikuchi is managing director (Japan) at Aon Securities