|[June 30, 2014]
Fitch Rates Alamo Re Ltd. Catastrophe Bond 'Bsf'; Outlook Stable
NEW YORK --(Business Wire)--
Fitch Ratings assigns a 'Bsf' rating to the series 2014-1 class A
principal at-risk variable-rate notes issued by Alamo Re Ltd., a duly
formed special-purpose insurer in Bermuda as follows:
--$400,000,000 principal at-risk variable rate notes; expected maturity
June 7, 2017.
The Rating Outlook is Stable.
The notes are exposed to insured catastrophe losses due to 'named
storms' and its ensuing perils (such as wind, gusts, hail, rain,
tornadoes) on an indemnity basis from subject business written by the
Texas Windstorm Insurance Association (TWIA). The subject business
covers the 14 first-tier, seacoast counties of Texas (and a small
portion of Harris County). This represents $84.4 billion (as of Dec. 31,
2013) of total insured value that is primarily residential (85%) and
commercial (15%) with very little exposure to mobile homes. Galveston
and Brazoria counties represent 50% of the total insured value.
On a historical basis, there have been 37 hurricanes that have made
landfall in Texas since 1900. Recent hurricanes, Dolly and Ike (two
events in 2008) would have caused an estimated 26% principal loss to the
notes. Hurricane Rita (2005) would not have caused any losses. Four
hurricanes prior to 1933 would have totally exhausted the notes.
Initially, noteholders are subject to principal loss (and reduced
interest) if annual aggregate ultimate net losses exceed the attachment
point of $1.90 billion and a total loss of principal occurs if the
severity reaches $3.25 billion in the first 12-month risk period. A
named storm must generate at least $50 million in ultimate net losses to
be included in the aggregate total. Based on the profile of the initial
attachment point, the modeled annual aggregate exceedance probability is
estimated at 3.80%, which implies a 'Bsf' rating per Fitch's criteria.
There are three annual risk periods over the term of the note. Thus, the
notes will 'reset' on June 1, 2015 and June 1, 2016 using an escrow
software model and TWIA providing updated subject business data. At each
reset date, TWIA may exercise an option to adjust the attachment levels
within an exceedance probability range of 4.40% to 1.75%. The implied
rating under Fitch's criteria at a 4.40% exceedance probability is
'Bsf', and the implied rating at 1.75% is 'BB-sf'. If such an option is
exercised by TWIA at either reset date, the risk interest spread will be
recalculated to reflect the increased (or decreased) level of risk
assumed by the noteholders. If TWIA does not elect to reset the
attachment levels, the reset agent will adjust the attachment points to
maintain the initial exceedance probability (3.80%) and initial annual
expected loss using the updated subject business profile.
The notes may be extended for three additional years if certain
qualifying events occur, or at the discretion of Hannover Rueck SE, a
reinsurance company that acts as a transformer and sits between TWIA and
Alamo Re. However, the notes are not exposed to any further catastrophe
events during this extension. The notes may be redeemed at any time due
to regulatory or tax law changes or partially by TWIA during the
extension period or under early redemption events. The repayment of the
notes to the noteholders occurs subsequent to any qualified payments to
TWIA for covered events. Noteholders have no recourse to TWIA (or to its
transformer, Hannover Rueck, SE).
KEY RATING DRIVERS
The rating is based on the weakest link amongst the evaluation of the
natural catastrophe risk, the business profile of TWIA, the counterparty
risk of the transformer (Hannover Rueck SE) and the credit risk of the
collateral assets. The natural catastrophe risk represents the weakest
link and currently drives the note rating.
The rating analysis in support of the evaluation of the natural
catastrophe risk is highly model-driven. As with any model of complex
physical systems, particularly those with low frequencies of occurrence
and potentially high severity outcomes, the actual losses from
catastrophic events may differ from the results of simulation analyses.
Fitch is neutral to any of the major catastrophe modeling firms that is
selected by the issuer to provide the model analysis, and thus Fitch did
not include any explicit margins or qualitative haircuts to the
probability of loss metric provided by the modeling firm.
The probability of loss was initially estimated at 3.80% based on a
one-yar simulated period as calculated by a third-party modeler, AIR
Worldwide (AIR) using their methodology and proprietary models, but as
noted, could be adjusted by TWIA to range between 1.75% and 4.40% at
each reset period. Results from other possible modelers or from TWIA
were not provided. Sensitivity analysis provided by AIR indicated the
implied rating would be no worse than 'Bsf'.
The risk modeling included certain stresses for economic demand surge,
storm surge and loss adjustment expense factor of 1.10. Debris removal
was not explicitly modeled but is implicit in the claim data history.
The modeled results did not include the possibility that the average
annual loss may increase by 1.10 in any annual risk period. The model
simulates only hurricane activity making landfall, thus it understates
claim losses to named storms not recognized as hurricanes or hurricanes
that become degraded. Noteholders are exposed to this basis risk or the
difference between actual net losses incurred by TWIA and the AIR
modeled net losses.
Alamo Re ultimately 'follows the fortunes' of TWIA in regards to
underwriting of new business over the next three years and claim
management practices. TWIA was established by the Texas Legislature in
1971 as a residual insurer of last resort. Although applicants must have
been denied coverage by at least one commercial insurer, all properties
insured by TWIA must be certified as built to specified building codes,
must have flood insurance coverage in specified flood areas and have
maximum limits per residential dwelling of $1,773,000 (higher limits are
available for commercial structures).
Fitch believes certain other safeguards are in place for noteholders:
TWIA is subject to review, oversight and approval by the Texas
Department of Insurance (though it receives no federal, state or local
funds for support); there is an independent claim reviewer and loss
reserve specialist (Deloitte (News - Alert) Ltd.) for Alamo Re; and the data quality of
the subject business provided to AIR appears adequate.
For this particular peril and transaction, TWIA under the catastrophe
bond will retain at least 5% of the aggregate ultimate net loss on a
first-dollar coverage and employs a unique Class 2 and 3 public
securities funded by non-refundable premium surcharges to policyholders
and insurer member assessments for an additional $1.5 billion
protection. Above the initial modeled attachment of $1.9 billion, claim
losses are shared between noteholders and traditional reinsurers on a
pro rata basis depending on the ultimate deal size.
Hannover Rueck SE (IDR: 'A+', Outlook Positive) acts as the transformer
for TWIA and Alamo Re. Noteholders are exposed to the risk that Hannover
Rueck SE does not pass along retrocession premiums to Alamo Re. These
premiums are a key component in the coupon payment to noteholders.
Proceeds from this issuance will be held in a reinsured reinsurance
trust account and used to purchase highly-credit-quality money market
funds meeting defined eligibility criteria, otherwise funds will be held
in cash. Investment yields generated from these permitted investments
are passed directly to noteholders as the other component. A downgrade
of a permitted investment will not necessarily lead to a replacement of
that investment. Further, noteholders are exposed to possible market
value risk if the net asset value of a money market fund falls below
$1.00. Finally, certain actions may be required if the collateral
account is invested in money market funds and FATCA is deemed to apply
in late 2016.
A legal opinion regarding Alamo Re's consolidation with its owner, a
Bermuda purpose trust, is not available. This opinion typically provides
assurances that the issuer will not be consolidated with its owner in
the event of its owner's insolvency. In this instance, Fitch gained
comfort with a lack of such an opinion given that the owner is a
non-operating company, there was no rating uplift on the note and
Fitch's understanding of the lack of a concept of substantive
consolidation under Bermuda law.
This rating is sensitive to the occurrence of a qualifying event(s),
TWIA's election to reset the note's attachment levels, changes in the
data quality or purpose of TWIA, the counterparty rating of Hannover
Rueck SE and the rating on the assets held in the collateral account.
If a qualifying covered event occurs, Fitch will downgrade the note to
reflect an effective default, and issue a Recovery Rating.
In the case of a reset election by TWIA, the rating would not be
sensitive to a movement from the initial 3.80% exceedance probability to
a probability as high as 4.40%, since both probabilities imply a 'Bsf'
rating. However, if as of the June 1, 2016 reset date TWIA elects to
move closer to an exceedance probability approaching 1.75%, the notes at
that time could be upgraded to as high as 'BB-sf'.
The escrow model may not reflect future methodology enhancements by AIR
which may have an adverse or beneficial effect on the implied rating of
the notes were such future methodology considered.
Additional information is available at www.fitchratings.com.
Applicable Criteria and Related Research:
--'Insurance Link Securities' (August 2012);
--'Global Structured Finance Rating Criteria' (May 2013);
--'Counterparty Criteria for Structured Finance Transactions and Covered
Bonds' (May 2013).
Applicable Criteria and Related Research:
Global Structured Finance Rating Criteria
Counterparty Criteria for Structured Finance and Covered Bonds
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