img
kv Blogs
 Kohli Ventures
4 January 2017

The Complex World of Catastrophe Bonds

The world of investment can seem confusing to the uninitiated – indeed, sometimes it seems like a world of stacking dolls, where the attempt to understand one thing inevitably leads to a struggle to figure out at least three discrete elements which are fundamental for understanding your original enquiry. This effect can make investing seem dull – after all, it’s hard to be interested by or enjoy something that you don’t understand. And if you’re not planning on entering into an investment, why would you bother to learn anything about it – it’s just boring numbers and incomprehensible terminology, isn’t it?

Well, not entirely. Some aspects of investing are genuinely quite fascinating – whether you’re involved as a prospective investor, or not. And one of these elements which is particularly intriguing, from a human perspective, is Catastrophe Bonds.

 

What Are Catastrophe Bonds?

As you may have gleaned from this blog’s title, catastrophe bonds (often known as ‘CAT bonds’) are immensely complicated – but their premise is fairly simple. Defined as ‘a high-yield debt instrument that is usually insurance-linked and mean to raise money in case of a catastrophe such as a hurricane or earthquake’, these bonds transfer risks from the issuer to the investors who have put their money into the bond. In other words, investors are essentially placing a “bet” against whether a specific catastrophe is going to occur in a certain time frame. If the catastrophe they’ve been issued against doesn’t happen, investors receive a payout – but if the catastrophe occurs, the investor’s principle goes to the issuer, who uses that money to cover their losses.

This may not sound like a particularly appealing investment opportunity – why would anyone want to risk their money against something as unpredictable as a natural disaster? But actually, catastrophe bonds can be quite appealing to investors – here’s why.

 

The Investment Benefits of Catastrophe Bonds

If you’re a high net worth individual, or are simply looking to increase your overall net worth, catastrophe bonds offer comparatively high yields against their risk levels – they have a typically short maturation time of 3-5 years, which goes some way towards mitigating the risk of something which isn’t easy to predict if you’re not a scientist or a geologist (and many would argue, even if you are). Another benefit of CAT bonds is; they’re almost uniquely placed to help investors diversify their risk as they’re unrelated to other asset classes, meaning they’re not affected by dips in the stock market and so on.Tk_Image_07

These two factors mean that, where once CAT bonds were the precinct of high-net worth, environmentally-savvy investors like our founder, Mr Tej Kohli, mainstream investors have now noticed their potential - $4.75 billion CAT shares were issued in the first four months of 2014. This has resulted in their yields falling – though relative calm in the marketplace, with few losses from investors (just ten incidences as of April 2016) goes some way to keeping these still comparatively rewarding yields competitive.

So don’t make the mistake of thinking everything investor-y is dry, boring and without a human element – the complex world of catastrophe bonds is every bit as fascinating as you’d expect.  And if you’re looking to diversify your portfolio and you like an extra frisson in your investments, CAT bonds could be of great interest to you personally, as well.