Insurance-Linked Securities Report 2008 - Aon

Aon Capital Markets
Despite some growing pains, all three derivative platforms have immediate application
for hedging purposes by fund managers investing in catastrophe-related securities or
equities of companies exposed to hurricane risk. They may also have limited use by
insurers who wish to supplement their risk management practices by decreasing their
exposure to U.S. tropical wind through the purchase of derivatives. As noted, basis risk
must be considered and evaluated in these cases. Considering contemporary pricing
indications, the lower cost of options and futures may induce insurers to implement
some derivatives hedging as part of their risk management strategy. Finally, as with
most derivatives, there is certainly potential for investors to take a speculative position
on wind risk.
It is safe to say that the development of derivatives in the insurance sector will
continue, particularly as analytical methods evolve in tandem with the financial
markets. The further development of cost-effective methods that adequately
address basis risk will hasten this evolution. In addition, the occurrence of a
natural event resulting in major loss to the reinsurance industry can be expected
to accelerate the acceptance of such products. Solutions that closely resemble
existing—and accepted—risk management tools will be more rapidly adopted and
incorporated into stakeholders’ risk management strategies.
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