NU Online News Service, Aug. 8, 3:04 p.m. EDT

The California Earthquake Authority (CEA) last week turned to the capital markets and tapped a new special-purpose vehicle to securitize its risk, a move which is credit-negative for the reinsurance industry, according to Moody's Investors Service.

In its Weekly Credit Outlook, Moody's says the transaction is credit-positive for the CEA, as the bonds were issued at a lower cost than the CEA's comparable protection from the traditional reinsurance market. Moody's notes that the CEA is "one of the biggest buyers of earthquake reinsurance in the world."

Last Tuesday, the CEA entered into a reinsurance contract with Embarcadero Reinsurance, Ltd., which sold $150 million in three-year catastrophe bonds to investors, Moody's explains. "The deal transferred CEA earthquake risk to the capital markets for the first time without the involvement of a traditional reinsurer," Moody's says. "As a result, the CEA will rely less on reinsurers whose products come at a high cost to the CEA. The CEA currently buys $2.9 billion in reinsurance protection."

Noting the impact on the reinsurance industry, Moody's says that while catastrophe reinsurers are looking to raise prices, investors "have pent-up demand for cat bonds, particularly those that diversify away from U.S. hurricane exposure, the underlying risk in the majority of cat bonds."

Moody's says that, given this demand, "we could see a wave of catastrophe-bond issuance in the wake of another major catastrophe and capacity shortages in the reinsurance market, which we expect to temper reinsurers' ability to raise prices."

For the CEA, Moody's says that, depending on investor interest, the authority may be able to tap the capital markets every four to six months. "Frequent, repeat issuances will help the CE diversify its claims-paying resources, increase negotiating leverage with reinsurers and manage price shocks in the traditional reinsurance market," Moody's says.

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CEA Looks to Capital Markets; Trend Could Pressure Reinsurers

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