Emergency relief is “only the second-best solution”

The finance and sovereign debt crisis pushed the topic of climate change from the agenda. So we don’t have to worry anymore?

Our opinion is that climate change will have considerable impact over a longer period of time. What I’m worried about is, that in the course of the discussion about the sovereign debt crisis the urgently needed means to protect against natural catastrophes were neglected. We have to think a lot more about where and how risks emerge, particularly in developing countries. Think of the Thailand flood. In my view, emergency relief after the fact is only the second-best solution.

Who do you think would have to initiate that?

I think that is a matter of governments and of course supra-national organizations. Instead of picking up the pieces afterwards, there should be preventive measurements, for instance against floods or to minimize the impact of earthquakes and for a quicker reaction after an event, so that the effects can be reduced. There have been enough warnings recently, such as the devastating flood in Pakistan or the earthquake in Haiti.

Another reason for increasing natural catastrophe losses is that economies are becoming ever more interdependent due to globalization. How can you as an insurer keep track of that?

This is indeed one of our biggest challenges. The complexity in companies is increasing and supply chains can change constantly. The only solution can be that we work even more closely with our clients to understand each other better. That’s the only way to assess risks appropriately and to anticipate how they will develop over time. This is a very complex issue, and I view it as both a big challenge and a big opportunity for us, but also for our clients.

Within Allianz, you are responsible for risk steering and just recently you again transferred storm and earthquake risks to the capital markets. How important have “cat bonds” become for you by now?

Cat bonds allow us to transfer risks to the capital markets and are a very important component in our range of risk protection. We as Allianz Re buy protection against risks from natural catastrophes on a large scale. Therefore, it is important for us to have a broad range of options available. We launched a first cat bond in 2007 and have been doing this regularly since.

What other sources for risk protection do you use?

The biggest part continues to be traditional protection we buy from reinsurers. We cover about 20% through alternative tools. Those include Cat Bonds as well as catastrophe swaps and other structures and non-traditional instruments.

The market for Cat Bonds is quite young. How did it develop and what perspectives do you see for this market in the future?

The trigger was in the mid-nineties, after hurricane Andrew and the Northridge earthquake, when insurance companies were looking for alternative reinsurance capacity. However, it took a while before these bonds got established, also due to the fact that the full understanding for this type of risks had to develop first on the investors’ side. Since then we have arrived at a point where there are specialized funds in the market which will probably continue to be our investors. I am very optimistic about the future of this market, in particularly because there is a demand. Currently, there is a high appetite on the investors’ part, which certainly is also due to the low interest rates. That’s why we were able to place considerably more than planned with our last bond in May.

Was the high demand also reflected in pricing?

Yes, the originally planned price was over 500 basis points plus the variable interest of the investment used as a security. This resulted in a term of 3 years and a volume increased to 175 million US-dollars from 150 million US-dollars with a premium of 4.25%. Comparing that to the price of other bonds we have emitted before is difficult because it is always transfer very specific peak risks we’re transferring. But in the end, the cat bond market follows the same law of supply and demand.

That sounds like you must be preparing the next bond already?

I can’t comment on that. But in general, we use cat bonds as more of a strategic tool. And you don’t place a bond that quickly. Modeling and structuring a bond are very complex processes. Several months pass between the decision to place a bond and the actual transfer of risks. This time we were lucky with the timing. When we went to the market, conditions were attractive for us. That’s why we placed more volume than we first planned.

Do you have a target volume for Cat Bonds launched by your company?

No, not really. As I said, about 20% of our reinsurance capacity we cover through alternative instruments. About one tenth of our overall natural catastrophe protection comes from cat bonds. In conjunction with our protection against US natural catastrophe risks, the share of cat bonds is considerably higher, about one third.

US storm risks dominate the cat bond market. Do you see a development in the market also with regard to other risks?

Yes. For example, Allianz Re has issued a cat bond with European storm risks. In 2007, we covered flood risks in the UK with one of our first cat bonds. So the potential is there, and investors are interested. They’re also looking for diversification. In the market we have also seen Australian risks and a liability portfolio. So there is movement in that regard.

Were any cat bonds impacted by the Oklahoma tornado? Were there any defaults?

We don’t have a cat bond with risks in that area. As far as I know there haven’t been any defaults in the market up to now. So far, we as Allianz Re – knock-on-wood – have had no default with our cat bonds. But that is because we use this instrument to protect against extreme risks. And these kinds of mega-events are rare.

This interview first appeared on June 12 in “Börsen-Zeitung”, reprinted by permission.

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