Although it is still too soon to tell with any certainty, last week’s Japanese earthquake is likely to only have a “one in 20 year “ impact on the Japanese portion of the catastrophe bond market, according to managing principal at cat bond specialist Fermat Capital Management.
As the death toll from the 8.9 magnitude quake and the resulting tsunami and aftershocks continue to climb, and Japan faces one of its bleakest moments, the cat bond market is focussing on several minor issues, among them two Japanese earthquake bonds potentially affected by the event – the Vega Re 2010 bond series and Valais Re.
Seo explained the Vega Re 2010 bond series has a “parametric index trigger”, meaning the bond is triggered by the recorded level of ground motion at over 4200 distinct, latitude-longitude points of land across Japan.
“Initial assessment indicates that the location of Friday’s quake, some 450km north east of Tokyo occurred in remote enough a manner to pose only a minor threat to this bond,” said Seo. “Although subject to considerable uncertainty because official ground motion data has not yet come out of Japan, it appears unlikely this bond will experience a principal loss from this event, although it may experience a relatively modest mark to market loss.”
Valais Re, the second bond possibly affected by the natural disaster, has an “indemnity trigger”, which Seo explained is directly related to the actual insurance losses experienced by the issuer from this event. “This is a relatively small bond issue and not widely held by investors, and it will be some time before the actual losses of the issuing reinsurer are calculated to determine whether the bond was triggered,” said Seo.
These most recent events in Japan will likely result in higher insurance premiums in the region as insurers seek to renew coverage over the coming year. The extent to which they will rise will be determined by the final damage cost, as well as the public-private dynamics in the Japanese insurance system, which Seo said has a “complex, tripartite public-private-cooperative structure.”
The cat bond market shouldn’t think itself completely uninvolved however, with Seo saying based on early estimates of the damage, the actual insurance losses, as opposed to cat bond impacts, look set to escalate well beyond the 1 in 20 year level, which may mean new cat bond supply from the Japanese market in the near future. This could create a whole new dynamic in the cat bond market.