The Effect of Natural Catastrophes on the Secondary CAT Bond Market

Abstract: The impact natural catastrophes have on society has become increasingly costly in recent years. This has led to a higher need for financing, which has historically been provided by (re)insurance companies. However, as these costs are slowly becoming too large for them to bear, insurance-linked securities such as catastrophe (CAT) bonds have been created to spread this risk to capital markets. The study’s goal is to facilitate increased market participation needed to achieve efficient levels of risk sharing. Thus, this empirical study is designed to give CAT bond market players a better understanding of what catastrophe types drive secondary market prices and how. As the basis of the empirical work, several OLS regression analyses are conducted to shed light on if/how certain types of catastrophes can statistically explain secondary market returns. Additionally, an event study approach is utilized to examine if/how unrelated catastrophes impact CAT bond returns, this study specifically drawing a conclusion from the US Wind CAT bond market. The time period investigated is from 2010-2019. The study reveals that catastrophe types causing the most damage and occurring most frequently have significant explanatory power, whereas no clear evidence can be established in regard to how CAT bond investors are affected by catastrophic events which are excluded from the bonds’ coverage.