Hurricane Milton to test booming ‘cat bond’ market

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The devastating hurricane hitting the Florida coast is expected to test the market for so-called catastrophe bonds, threatening losses for a form of securitised reinsurance that is on course for record issuance this year.

US officials have warned of the lethal threat from Hurricane Milton, expected to be one of the worst storms to hit Florida in more than a century, as they raced to evacuate the area before the storm made landfall on Wednesday night.

Warnings have also grown of the threat to property and livelihoods of Floridians, adding to the losses from last month’s Hurricane Helene. On Wednesday credit agency Morningstar DBRS estimated that a likely land entry point south of Tampa Bay could create insured losses from Milton of between $30bn and $60bn.

A share of those losses is expected to be paid out of catastrophe bonds, in which insurers or other companies exposed to natural disasters pay investors a coupon to take on some of the risk. These “cat bonds” are particularly used to hedge the risk from big US hurricanes, but will typically avoid being triggered by ones that have a lower impact.

“Milton has the potential to be a much bigger loss for the industry than Helene and it could impact both existing bonds and future issuance spreads,” said Jean-Louis Monnier, head of insurance-linked securities at reinsurance group Swiss Re.

It will take several weeks or months for the market to settle, he added, as was the case after Hurricane Ian two years ago.

Data from Swiss Re shows that despite a string of costly weather events in recent years, demand has continued to rise in a market that has become an established alternative asset for institutional investors.

Monnier said that issuance this year was on track to top the $15.6bn issued in 2023, and he forecasts the market will top $50bn in outstanding debt next year, a common view among specialists.

Industry insiders expect there is the potential for some loss of face value from currently issued bonds. Helene is projected to cost insurers as much as $11bn but it will be “a minor impact to cat bonds”, said one big investor, speaking on condition of anonymity. “Milton has the potential to be more material.”

Some cat bonds specialists have drawn a comparison between Milton and Hurricane Ian, with one projecting Milton will deliver an initial hit of close to 10 cents on the dollar on bond prices.

Some market participants reported discounts for Florida-exposed cat bonds in secondary trading, but market reaction will start to become clearer from Friday, when broker-dealers send out pricing sheets with the most up to date indicative bids and offers for each cat bond.

“Milton could go either way” in terms of its impact on issuance, said Steve Evans, editor-in-chief of Artemis.bm, a specialist provider of information on insurance-linked securities.

A huge loss from Milton could unnerve investors, specialists said, but it could also prompt insurers after to lean more heavily on the cat bond market to reinsure big risks. 

“A major Milton loss could lock up the market for a time, but it could also stimulate much more demand longer term for cat bonds,” Evans added.