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Short-lived Storm Spread Widening

14 September 2017 by

2017 is among the worst hurricane seasons in recent memory. A series of back-to-back category 4 and 5 hurricanes has not only created massive destruction but also resulted in meaningful disruption to many lives, with the news full of images of flooding, wind-bent palm trees and displaced residents. Hurricane season hits its peak between August to October of every year, but this year’s storms were particularly destructive, with hugely significant damage from high-speed winds and flooding.  In fact, the CEO of UK insurer Hiscox recently told the BBC that the damage so far could make 2017 the most costly hurricane season yet.

As the storms picked up speed in the Atlantic, eye-popping estimates of damages began to percolate in the media and financial analyst community, highlighting worst-case scenarios. Whilst we took note of these, we kept in mind that in the past actual damages come in below initial estimates. Already, we’ve seen early estimates for damages from Hurricane Irma  – in the $300bn context  – revised down as the picture becomes clearer. Moody’s Analytics recently estimated combined damages from both Hurricane Harvey and Hurricane Irma at $150-200bn. In reality, it will take some time before an accurate picture of damage costs emerges, but the credit markets are already reflecting that the initial estimates were wide of the mark.

The insurance industry is typically the sector most impacted by natural disasters, and as you would expect, the markets get a bit nervous, contemplating the probability and severity of worst case scenarios on insurance issuers. As the storms approached, credit spreads in the insurance sector drifted wider; we view wider credit spreads in this context as a buying opportunity. Insurers are very well capitalized at the moment, and we view the extent of estimated damages from these storms as more of an equity/earnings event than a solvency/credit concern. Additionally on a forward looking basis the insurers stand to benefit from increased premiums, although again, this also tends to be an equity/earnings issue.

To the extent therefore that we see credit spreads widening, we would be buyers into these dips, however investors probably need to act quickly as the bond opportunity can be quite short lived.

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