The First Cat Bond Ever?
Though not really "the first cat bond ever", a Swedish government agency tried insurance linked instruments ten years before the introduction of cat bonds in the USA.
Most people when asked about cat bonds will assume that they were first invented and issued in the United States, dominating the cat bond market today. Speaking about cat bonds as we know them today, this is certainly true.
The modern cat bond market took off in the aftermath of Hurricane Andrew that struck Florida in 1992. The total insured losses, $ 15.5 billion, forced eleven insurance companies into default and shook the reinsurance market in Florida. The need for insurance capital led the insurance industry to tap into the capital market through various measures and the first modern cat bond, Residential Re, was issued in 1997.
But if we were to look for the first cat bond, the history extends further into history. The general principles were proposed as early as 1973 in the essay An inquiry into the feasibility of a reinsurance futures market by Robert Goshay and Richard Sandor.
And the first deal that involved an instrument that can be characterized as a cat bond involved the Swedish company Svensk Exportkredit (SEK, the Swedish Export Credit Company), a government owned company assisting buyers of Swedish goods and services with financing. In the 1980’s, Japan emerged as one of the most prominent sources of capital for SEK.
To secure loans on favorable terms, SEK introduced earth quake loans in 1984, thereby preceding the modern cat bond market by more than a decade. Though they have little to do with the modern cat bond instrument, they are, according to Samuel Cox and Hal Pedersen’s essay Catastrophe Risk Bonds (1997) the “earliest risk catastrophe bond deal we know about”.
According to SEK, the bond for USD 5 million was emitted in December 1984, with a 20 year maturity. Japanese insurance companies bought the bond and accepted lower than normal coupons for loans in return for the right to immediately sell the bonds back to the issuer at the nominal value if an earthquake over a defined magnitude on the Richter scale would occur (in modern terminology, a parametric trigger). The insurance companies were thus guaranteed liquidity in case of a catastrophe causing indemnity payments, while they got a higher yield than would be possible buying government bonds.
The SEK bond has few similarities to the tradable bonds emitted today, but nevertheless marks the very first step of the modern asset class. And to date, it is the only “cat bond” issued by a Swedish entity.