The Swiss Re bond is referred to as a catastrophebond. Why?

Question

What will be an ideal response?

Answer 1

Swiss Re's bond is referred as a catastrophe bond (or CAT) because it has characteristics related to what is commonly associated with a company who wants to avoid a potential disaster if there are extraordinary changes in factors that influence paying off liabilities. By definition, a catastrophe bond is a high-yield debt instrument that is usually insurance linked and meant to raise money in case of a catastrophe such as an event in nature like hurricane or earthquake or an event that affects the financial markets like unexpected and dramatic changes in interest rates. A CAT has a special condition that states that if the issuer (insurance or reinsurance company) suffers a loss from a particular pre-defined catastrophe, then the issuer's obligation to pay interest and/or repay the principal is either deferred or completely forgiven.

Advantages of CAT bonds are that they are not closely linked with the stock market or economic conditions and offer significant attractions to investors. For example, for the same level of risk, investors can usually obtain a higher yield with CAT bonds relative to alternative investments. Another benefit is that the insurance risk securitization of CATs shows no correlation with equities or corporate bonds, meaning they'd provide a good diversification of risks.