SCOR's chief executive, Thierry Léger, highlighted the critical relationship between the expansion of insurance-linked securities (ILS) for wildfire risks and the enhancement of risk modeling during a recent earnings discussion. He stressed that a greater quantity of ILS instruments specifically targeting wildfires would only materialize with improved modeling accuracy and a more profound comprehension of how climate change influences this peril. This perspective emerged as a key takeaway from his remarks regarding the potential for such financial tools to support re/insurers, especially in Europe.
During the call, Léger addressed inquiries about the viability of wildfire ILS issuances, drawing parallels to established practices for Californian risks. He affirmed the potential but underscored the inherent difficulties, noting that wildfire risk is not easily transferred via ILS due to the underdeveloped state of current fire models. For ILS structures to be truly effective, Léger explained, robust and reliable models are indispensable. Consequently, while he anticipates initial, smaller-scale ILS endeavors for wildfire risk, a substantial increase in volume is contingent upon significant advancements in modeling technology and a richer body of experience concerning climate change's role in exacerbating wildfires.
Léger further elaborated on the recent surge in wildfire incidents over the past five years, describing it as an "explosion." He pointed out the escalating burden on insurance companies from various climate change-related events, specifically citing hail, floods, and wildfires, which collectively represent a significant loss load for the industry. Despite this, Léger clarified that the traditional market currently provides ample capacity for wildfire coverage, mitigating any immediate necessity for ILS. However, he acknowledged the inherent logic and benefit of diversifying capacity sources beyond conventional insurance methods.
Echoing Léger's sentiments, SCOR Group CFO Philipp Rüede elaborated on why Californian wildfire risks are a more prevalent feature in the catastrophe bond market. Rüede explained that capital markets typically absorb only the most extreme and remote risks, aligning with investor preferences. He noted that California's substantial size and the diversification benefits it offers within the ILS market contribute to its suitability. However, Rüede concurred with Léger that this area is unlikely to experience rapid growth in ILS. He also differentiated between the rare, severe events targeted by cat bonds (like 1-in-30 or 1-in-50 year occurrences) and the more frequent, lower-severity events that impact re/insurers' earnings, which are less suited for the cat bond market.
Léger concluded by reiterating that the cat bond and broader ILS market largely remain focused on peak perils. He highlighted SCOR's own involvement through its Investment Partners division, emphasizing its leadership in offering ILS investments. He categorized ILS exposures into three main buckets: the primary one encompassing major global risks like U.S. wind, Japanese earthquakes, Californian earthquakes, and European windstorms; a middle category for smaller, more frequent events where capacity is harder to find but efforts are made to create a market; and a third, seldom-utilized bucket for traditional reinsurance types such as motor liability or cyber, which are challenging to transfer to ILS. This underscores that ILS generally occupies a specialized niche within the reinsurance sector.
The increasing issuance of wildfire catastrophe bonds in recent years has been substantially driven by improvements in risk models, particularly those developed for the United States and specifically California. As similar advancements in risk modeling extend to other geographical areas, such as Europe, it is anticipated that ILS structures will increasingly be utilized to transfer a portion of the significant wildfire exposure, as evidenced by ongoing wildfire events this year, to the capital markets.
