Media protection of disasters promotes alpha likelihood in cat bonds: John Website positioning, Fermat
The way the mainstream media coverage of natural disasters and severe weather is likely to provide an opportunity for disaster bond fund managers to generate alpha in the years to come, according to John Seo of Fermat Capital Management, LLC.
As with any growing market, the chance that media coverage will become relevant to the Insurance-Linked Securities (ILS) market increases as its size and the number and types of participants, in this case investors, increase.
If the mainstream media makes catastrophic events sensational, it can even lead to price movements, believes John Seo, co-founder and chief executive officer of ILS and catastrophe-focused investment manager Fermat Capital.
This has consequences for the future, especially since climate change is becoming an increasingly important media topic.
In a recent interview with investors, Seo stated, “I think the biggest source of alpha in our market going forward is really media dynamics.”
While you might think the impact is most significant with live cat events, such as when a hurricane is in the water and approaching land and secondary cat bond prices could move, Seo pointed out that those media dynamics are too relevant to the primary issue of disaster is shackles.
“We see that secondary trading in particular, but also primary issues – the reaction of investors to primary issues – is increasingly being driven by the media,” explained Seo.
“This really is our greatest opportunity for alpha generation because it’s not the media’s job to calibrate the message about the threat of natural disasters.
“They report on it in a way that frankly has an element of entertainment but no measure, and this can lead to extreme discrepancies between the prices of bonds on the secondary and even the primary market versus reality,” said he continued.
Media reports can sharpen the nerves of investors and so sensational catastrophes could become a particularly relevant factor at ILS.
We have an asset class where values are tied to the measured and perceived risk of a position and a market that is attracting an ever wider range of investors, and this is likely to increase further in the future.
This means that if a catastrophe event is made sensational in the media, it can generate market-moving impulses that can affect the secondary price, especially in the so-called live catastrophe situations in which an event is about to occur or has just occurred.
But as the ILS and disaster market continues to expand, media could even be a driver of first edition prices, as Seo suggests, as those same media-driven nerves could alter the perception of risk to the extent that investors adjust their pricing.
It’s a wise observation of Seo as there is a distinct and very obvious media dynamic in most capital markets that can sometimes become a significant factor.
We have seen this in the mortgage-backed securities markets, and over the past year it has become increasingly evident in investment areas like the IPO market.
An expansion of the media types relevant for ILS to social media is also conceivable, especially if you consider how the current GameStop situation has developed for some investors.
In this case, amateur traders have teamed up through social media platform Reddit to target GameStop stock with the aim of hurting short traders by inflating the stock price, which resulted in huge losses in a few quarters .
The power of media, social media, and the masses of motivated, ordinary investors has been exposed in the GameStop example, showing how markets or assets can be moved by an increase in media activity.
The rise in climate-related activism could become a relevant part of the media dynamics Seo describes in the future, as numerous catastrophe bonds carry hazards that many would immediately classify as closely related to climate change-related factors.
This could open up the cat bond market to a growing opportunity for media-related price movements, given the high profile nature of the climate and the activism that goes with it.
What does this mean for the ILS market, its fund managers and investors?
This means that the ILS market must become increasingly media aware and keep up with the waves of news media and social media closely related to the major catastrophe scenarios that may cause losses or related to the ILS threats issued and traded.
Of course, it also makes your own internal risk assessments and access to the necessary risk modeling and analysis tools even more important that could help ILS managers and investors seize any alpha opportunity that arises from media coverage.
Also Read: ILS ESG References Attracting New Investors and Issuers: John Seo, Fermat.