Catastrophe Bonds (Cat Bonds)

• Catastrophe Bonds (Cat Bonds) are insurance-cum-debt instruments that transfer disaster risk from governments to global investors by securitising risk, enabling faster payouts and reducing reliance on traditional insurers.

• How They Work:

  • Issued by: Sovereign governments (sponsors) via intermediaries like the World Bank or reinsurers.

  • Investors receive high returns (coupon rates) but risk losing principal if a disaster occurs.

  • Payouts are trigger-based, often linked to disaster magnitude thresholds.

• Investor Attraction:

  • Disasters (earthquakes, cyclones) are uncorrelated with financial markets, providing portfolio diversification.

  • Main investors: Pension funds, hedge funds, family offices.

  • Global issuance: $180 billion to date, $50 billion currently outstanding.

• India’s Context:

  • India has low disaster insurance coverage, making the population vulnerable to loss.

  • Rising climate risks (cyclones, floods, earthquakes) make post-disaster funding burdensome.

  • India has already allocated $1.8 billion/year since FY21-22 for disaster mitigation.

• Proposal for South Asia:

  • India could be a lead sponsor of a South Asian Cat Bond to pool regional risks.

  • Shared coverage for hazards like earthquakes in Nepal, Bhutan, India, or cyclones/tsunamis in Bay of Bengal countries.

  • Risk pooling would lower premiums and increase regional resilience.

• Limitations:

  • Trigger design flaws (e.g., no payout if a disaster falls just below threshold).

  • No disaster = no payout, which may be seen as wasteful spending.

  • Transparent comparison between premium costs and historical relief expenditure is essential before adoption.

Cat bonds can offer India and South Asia an innovative, cost-effective, and timely financial tool for disaster resilience, but careful design and risk assessment are critical to ensure effectiveness.