Catastrophe bonds pioneer hits back at book

A pioneer of reinsurance sector hits back at book that says bundled bonds have echoes of subprime crisis has hit back at claims the instruments could jeopardise the stability of the global insurance industry, accusing the academics behind the highly critical research of "stoking unfounded fears".

John Seo - who co-founded Fermat Capital, among the most influential catastrophe bond fund managers - argues the business school analysis that warns of dangers in the market reaches "completely false" conclusions.

The launch last week of Making a Market for Acts of God, a book by three scholars, has caused a stir in the $575bn market for reinsurance, which provides back up cover for insurance companies.

In the book, researchers led by Professor Paula Jarzabkowski of Cass Business School warn the industry is at risk of "collapse" unless it keeps in check "dangerous" changes to how it is structured.

The book raises concerns both about rapid growth of "alternative" types of reinsurance, which include catastrophe bonds, as well as changes to how traditional reinsurers operate.

The research highlights a tendency by reinsurance groups to take on "bundled" risks - policies that can be triggered by several different events, from floods in Europe to hurricanes in Florida. It then cautions that the way the industry is packaging catastrophe risks has similarities with how banks carved up subprime mortgages before the 2008 financial crisis.

Mr Seo, whose catastrophe bond fund has more than $5bn of assets under management, is among several critics of the research. He said the academics had adopted a "careless attitude" to catastrophe bonds, and plans to write to Fermat's investors responding to the new book.

"Jarzabkowski's alarmist views regarding cat bonds are completely unfounded," he said, adding that the professor "spent three years studying the traditional reinsurance market, but her knowledge of the cat bond market is appallingly thin".

Michael Wade, a Lloyd's of London veteran who helped revive the fortunes of the market in the 1990s after the market came close to collapse, said there were "very important distinctions" between new types of reinsurance and the sliced-and-diced instruments that wreaked havoc during the 2008 crisis.

"It is wrong to suggest this is a parallel to the same degree," he said.

Mr Wade, a Lloyd's veteran, highlighted that catastrophe bonds were generally fully collateralised - meaning investors who buy them have to set aside funds to meet claims.

Still, he said: "It is entirely right to ask whether investors, or their advisers, are sufficiently informed to understand the modelling and pricing. And that conflicts of interest are disclosed."

Supporters of Professor Jarzabkowski include Bronek Masojada, chief executive of Lloyd's insurer Hiscox. In quotes provided by Oxford University Press, the book's publishers, he said the analysis contains "important warnings".

Andrew Duguid - who wrote On The Brink about the crisis at Lloyd's of London two decades ago that almost caused the market to collapse - said the new title was "very welcome and detailed".

"The authors are right to point out the dangers of people not really understanding the risks they are taking on," he added.

In response to the criticisms, Prof Jarzabkowski said she welcomed the discussion and stood by her work, which involved a close study of hundreds of brokers and underwriters and their behaviour, culture and relationships.

She said: "I'm absolutely certain that under the right conditions, they [cat bonds] will pay out. My point is more that [for a catastrophic event], it's almost impossible to precisely specify the conditions."

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