The Nature of Risk In Insurance-Linked Securities

In a relatively new financial product called an insurance-linked security, or ILS, investors stand in the place of the reinsurance companies that traditionally are the experts at estimating risk. The largest segment of the ILS market consists of so-called “cat bonds,” or catastrophe bonds. The writers advise potential ILS investors, who increasingly include pension funds and may be under pressure to deliver better than average returns, to carefully analyze the coverage contingencies of the particular product they are considering and avoid underestimating the risks.