Hurricane Patricia Impact on SEF Entropics Cat Bond Fund
Hurricane Patricia is highly likely to trigger a cat bond, MultiCat C, part of Entropics' portfolio. This affects the NAV of the fund and releases resources for reconstruction in Mexico.
Hurricane Patricia hit Mexico’s west coast early Saturday morning (CET). On its route to Mexico, it developed into the strongest hurricane ever recorded in the western hemisphere, with sustained winds at 90 m/s, and gusts at 110 m/s. Though the hurricane, thankfully, did not hit a densely populated area, material damages to housing, workplaces and infrastructure are bound to be severe.
The hurricane is very likely to have triggered a cat bond, MultiCat class C, offering the Mexican government hurricane protection. On Friday afternoon, the bid price for the bond converged on zero, reflecting the market’s assessment that this is the case.
MultiCat class C is based on a parametric trigger, triggering at 50% if the central pressure drops to 932 hPa and at 100% if the central pressure is measured at 920 hPa or lower. The measured pressure a few hours before Patricia hit Mexico was 879 hPa, the lowest pressure ever recorded in a hurricane. The pressure increased somewhat after this and there is a certain probability for a recovery if the final report, due within 120 days, would state that the central pressure on passing over the points of measurement was more than 920 hPa.
For SEF Entropics Cat Bond Fund, holding shares in MultiCat class C, this entails that the net asset value in the coming week will reflect the market valuation of the bond. Compared to the NAV last week this position will presently contribute with a return of -6% in relation to the Fund’s return last week of 2.66% since inception in February.
Though we expect low frequency events with serious effects, they are of course never welcome. Due to the Fund’s diversification we expect that shareholders will be compensated when a bond triggers, as the majority of the bonds will continue to bring in coupons.
This event also illustrates that cat bonds work as intended. They were not affected by the stock market volatility during the autumn, but are affected by natural catastrophes. Capital is released for reconstruction, something that Mexico currently needs. It also demonstrates that the diversification of the portfolio in order to limit losses from single events works.