ILS funds reserve for COVID BI exposure on some European cat programs

Some insurance-linked securities (ILS) funds that invest in collateralised reinsurance contracts have been adding reserves for potential exposure to business interruption losses due to the COVID-19 pandemic in a handful of the major European catastrophe reinsurance programs, we understand.

We’re told that these reserves have largely been set in October, with some in November, and that they emanate from insurers who are now anticipating calling on their catastrophe reinsurance programs for business interruption claims that have risen, or recently been aggregated up to near their program attachment points.

As we explained in a recent article, data suggests that some ILS funds have had to reserve as much as 4% of their fund assets in case of losses from business interruption claims caused by the COVID-19 pandemic.

As many as 15% of ILS funds may have reserves that amount to around this level, of 4% of assets, while on average, it is more typical for ILS managers to have loss reserves set up amounting to 1% or 2% of capital for business interruption claims from the pandemic.

ILS fund managers have been setting aside provisions for potential pandemic losses since as long ago as March or April.

But, as greater clarity has emerged over how widespread business interruption claims would be and where they might cause insurers to claim on their catastrophe reinsurance programs, or filter through to retrocession structures, some ILS managers have had to add to or set up fresh reserves and side pockets.

The latest cases of reserves being set by ILS funds, are related to European property catastrophe reinsurance contracts where exposure to the pandemic has recently emerged, sources told us.

The reserving has been significant enough as to wipe out returns for some ILS funds in October, causing some negative monthly performance in certain quarters of the ILS market, we understand.

Property insurance losses related to COVID-19 have been on the rise in Europe, not least due to the emergence of second waves and fresh lockdowns of business activity across many countries.

At this stage, it seems like the reserving is largely cautionary, although some large catastrophe reinsurance programs are set to trigger and notifications have been sent out to reinsurers supporting them, we understand.

Major carriers including Allianz and UK carrier RSA, have reported increasing COVID-19 claims under property policies for Q3 and this is anticipated to continue into Q4.

Some notifications have been made to reinsurers by these carriers and others, we understand, resulting in proactive reserving by any ILS funds with exposure to catastrophe programs that could eventually take some losses.

While only really significant enough to erode a months returns, coming on top of an aggregation of hurricane and severe weather losses, the ongoing effects of the pandemic and the way claims are beginning to flow towards reinsurance capital suggests further erosion of some ILS fund results this year.

That’s without even considering if or when the pandemic and business interruption begins to play into any retrocession arrangements. Something the market is likely to understand much more clearly over the next few weeks.