Sunday, April 30, 2006

The incredible diversity of insurance securities.

One of the main focal points of this blog is to emphasize that intellectual distinctions between insurance, derivatives, and other risk management tools are quickly collapsing.

This offering by Swiss Re is a case in point:

"Concerning the hybrid debt offerings, Swiss Re said: "Dresdner Kleinwort Wasserstein, HSBC and UBS Investment Bank will act as joint bookrunning lead managers on a Reg S euro-denominated transaction. The offering will be structured using a repackaging vehicle (ELM B.V.), which will issue perpetual step-up notes secured by perpetual subordinated loan notes to be issued by Swiss Reinsurance Company."

More information about the specifics of the issue can be found here:

This is a good example of a hybrid security that exibits debt-like characteristics, but also can morph into something that looks like equity (read closely the paragraphs in the above link regarding "deferral", and you will get the picture.)

The structured finance vehicle (ELM B.V.) issues step-up notes (notes whose interest payments increase over time) that are deeply subordinated (in the event of a "credit event" with ELM B.V., they will have lower priority than other creditors), but are secured by debt issued by Swiss RE. The security "looks" like debt because the payoffs are linked to the performance of the Swiss RE debt. It "looks" like equity becuase the step-up and deferral interest payments increase when the performance of Swiss RE is good.

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