Cat Bond Market Hits Record High as Insurers Offload Climate Risk

The market for catastrophe bonds (cat bonds) surged to a record high in 2024, reaching almost $50 billion, as insurers sought to shed risk associated with mounting losses from climate-related disasters, as reported by Bloomberg.

Issuance of cat bonds, designed to provide supplemental insurance coverage for events like hurricanes, earthquakes, and wildfires, totaled $17.7 billion, marking an 7% increase over the previous record set in 2023. These figures, which include cyber risk and private transactions, highlight the growing reliance on this market for risk transfer, according to Artemis, a leading tracker of insurance-linked securities.

"The cat-bond market had another year of strong growth," says Tanja Wrosch, head of cat-bond portfolio management at Twelve Capital AG, to Bloomberg. "Larger, more diverse and deeper markets are key to the success and sustainability of cat-bond solutions and investment strategies."

Cat bonds function by offering investors a potential for double-digit returns if a predefined disaster doesn't materialize. However, bondholders face potential losses if a triggering event occurs.

Insurers' increasing appetite for cat bonds is attributed to factors like rising inflation, which inflates the cost of rebuilding after disasters, and the escalating frequency and severity of extreme weather events driven by climate change.

This month witnessed Allstate Corp. finalize its second-largest cat bond transaction, securing $650 million in reinsurance protection against a range of natural perils. This deal, approximately 86% larger than its initial target, underscores the growing demand for this type of risk transfer mechanism.

Despite the rapid expansion of the cat bond market, key challenges remain. Investors continue to navigate the complexities of assessing risk, particularly for less predictable events like wildfires and thunderstorms. While models for these so-called "secondary perils" are improving, they lack the accuracy of models used for hurricanes or earthquakes, making risk calculations more challenging.

The question remains whether investors will embrace cat bonds that cover aggregate losses from these less predictable events, rather than bonds focused on single-occurrence disasters like a major hurricane.

"We still see investors showing a stronger preference for occurrence structures," notes Wrosch. "This is certainly true for us."