Going under cover?
?In theory, there's no immediate change in what we're willing to
cover,? says a London-based private political risk insurer ? ?we
still have aggressive targets and we expect to meet them.? This is
a sentiment that seems to be echoed throughout major insurance
industry boardrooms ? or at least press-offices ? worldwide. But
behind this business-as- usual manner exists a more frenzied
reassessment of the actual impact of the global economic slowdown,
made sharper by the 11 September attacks, on industry capacity,
risk appetite and the cost of capital.
These are early days. Working out the implications of all this on project finance markets is, of course, still speculative at best, but at least one thing is certain: an acute contraction of capacity is creating shifts in political and credit insurance market practices more than any supposed heightening of country-specific risk. And the market is being reordered more by shocks to the global economy as a whole, more than by any military or political fallout.
Even so, as a direct result of the September attacks, initial feedback suggests that 8% to 10% of insurance markets' capital has been wiped out. On this evaluation, some $10 billion will need to be found to make up the shortfall, though total claims are likely to be substantially greater than that, (possibly up to $50 billion). And this undoubtedly will mean costs being passed on to customers across all classes of business. It's also likely that some insurers and reinsurers will fail, largely because of loss distribution. ?We're starting to hear a lot of rumblings about contraction in the reinsurance market ? that some of these guys aren't going to make it,? says Rod Morris, vice-president for insurance at OPIC.
As it stands, current perspectives are steeped in uncertainty ? particularly about how much insurers will be able to write, and about how much reinsurance they'll be able to buy. The scenario currently unfolding will be supply driven, more so than in previous years. Accordingly, appetite for large, long tenor deals will be trimmed back in favor of smaller, short-term deals. Unsurprisingly, politically susceptible regions area also likely to suffer from lack of insurer appetite.
The industry anxiously awaits the reinsurance renewal season next January ? negotiations which will largely determine the level of capacity available for future writing of credit and political risk insurance. There is, however, consensus that tighter reinsurance conditions will apply. And most companies' natural instinct in times of uncertainty is to concentrate capital on core activities.
Nor are potential risks specific to emerging markets. Many more corporate bankruptcies and delinquent loans are rearing their troublesome heads in developed markets as well. The result ? a so-called ?flight to quality', with lenders and insurers alike backing only the most bankable deals. Coupled with tighter capacity, some insurers, notably within Lloyd's, may start to limit their terms to 12 months ? anywhere.
But another school of thought holds that capacity constraints will ultimately rid the market of ?naïve capacity.' Explains Roger Pruneau, head of MIGA's guarantees department, ?people will begin to retrench when they realize that the market is inclined towards higher quality, or more expensive, transactions.?
To that extent, however, an unambiguous result of diminished capacity will be a shift in business terms in favor of insurers ? a tougher market and possibly higher premiums. ?Of course there will be a knock on effect on pricing. Prices are going up but its not yet consistent. The question is how rate increases will be applied,? says Peter Sprent, manager at AIG's political risk department.
So far, that remains to be seen, though ?judiciously' seems a safe description, particularly since, on average, rates in the PRI market are likely to increase by 30% from pre-attack rates.
But Pruneau, for one, cautions against drawing too assured a conclusion about pricing trends at this stage. He says, ?prices had been depressed in the reinsurance industry, for example, so the impact of the attacks needs to be put in perspective. I'm hard pressed to say that there will be a massive upward adjustment of prices.?
An interesting contrast will be the relative adjustment in pricing between private and public sector premiums for political and commercial risk. Multilaterals and bilaterals by and large are more expensive, but that gap may well close.
After all, MIGA, as a multilateral, does not price risk at market conditions. As such, says Pruneau, ?our pricing will only be affected to the extent we see different risk patterns emerging and, indeed, if we do see a likely ?flight to quality' then prices could even decline.?
As importantly, any impact on pricing also depends on the types of risk in question. And as far as non-commercial risk is concerned, the only potentially suspect class, compared to before September 11, is war risk or ?political violence' risk. Says Pruneau, ?other things being equal, most risks won't be impacted. For example, expropriation, currency transfer or inconvertibility and breach of contract are not going to be affected by recent events.?
Higher premiums?
One likely effect of tightening reinsurance terms is a stepping up of global reinsurance premiums. This would hit the return expectations of many power projects which have either reached financial close or are currently verging on being wrapped up. Rising reinsurance premiums would push up operation and maintenance costs, since insurance costs are typically treated as part of the operation and maintenance costs of power projects.
Reinsurance premiums had already been rising over the last few months and, in some cases, are 60% higher than last year. Rates are expected to be closer to 1% across assets or some of the insurance companies may simply refuse to assume the risk.
Consequently, industry sponsors may have to absorb additional costs owing to increases in reinsurance premiums. If the current situation of escalating premiums continues, many projects may have to scale down their return expectations substantially.
But even so, emerging market power deals are still getting closed successfully, albeit with significant multilateral assistance and specialized risk strategies. Remarkably, even Argentina bore witness to a power deal getting financed last month. Though a small, non-project finance transaction, the Central Dock Sud project, sponsored by YPF-Repsol, Endesa and Panamerican Energy, took out a 12 year $70 million EIB backed loan to fund its costs.
The loan, representing a fraction of the $400 million financing costs for the 775MW plant, is being provided in the context of EU cooperation with third countries. Risks of currency non-transfer, expropriation, war and civil disturbance are covered by the EU budget guarantee. Commercial risk is taken solely by private sector and the commercial banks, BNP Paribas and Societe Generale, both of whom are guaranteeing the loan to 50% each. The deal demonstrates a degree of commercial appetite even in the most daunting of macroeconomic environments.
Still hot?
Markets are far from stable. As OPIC's Morris puts it, ?the world is a riskier place post September 11. There's an awful lot of dislocation in the insurance market today. And there have been a lot of project cancellations due to political violence. In some cases contracts are being renegotiated to incorporate increased coverage rates at between 25%-1000%.? But the bottom line is that deals will still get done, even in seemingly unrelenting climates, if the right structures are in place.
The Gulf, with its profusion of hefty deal potential, is one region that may encounter greater risk perceptions in light of deeper regional sensitivities. But for most of the Middle East's energy industry, political risk has been always tucked away into business risk.
The possibility of losing cash on an investment as a direct result of political actions is an inescapable part of the industry ? whether through expropriation, war, civil unrest or, more commonly, simple contract frustration that hinders company operations.
But the aftermath of September's attacks on the US suggests no obvious risks to the Gulf oil and gas business, assuming retaliation is confined to Afghanistan. The costs of doing business, however, may rise. War insurance premiums levied after the attacks on the US have added around $0.20 per barrel to the cost of cargoes loading from Gulf ports. And the banking sector, being highly sensitive to change, can be quick to hike lending rates for investments in risky countries.
Perceptions of political risk can also damage a project's reputation for security, and thus customers' willingness to purchase production through offtake agreements. But the energy industry, demonstrating its business confidence, seems blithely unconcerned, with very few of the majors having taking out new insurance policies. If anything, most major companies will have already adjusted projected cashflow for risk. Many majors treat political risk as an inherent part of their business ? they've been dealing with it for decades. For example, as Project Finance went to press, TotalfinaElf had set about loudly reaffirming its confidence in its market strength, amid growing concerns from smaller companies of political risk. Among other regional ventures, TotalFinaElf is co-sponsor of the sizeable Dolphin gas project, as well as being involved in Saudi Arabia's ambitious gas initiatives.
Of course, political risk can be insured against, although the costs vary widely, depending on the location and type of project. Particularly risky deals can command premiums of up to 5% of the total insured value ? if coverage is obtainable at all. But while political risk insurance can help smaller projects, many energy deals are simply too big for multilateral or private insurers to cover.
For instance, AIG will cover transactions up to a maximum of $50 million and up to a total of $450 million per country. And MIGA, as part of the World Bank, affords an extra level of protection.
?We're beginning to see oil and gas deals coming to us for preliminary consultations,? says Pruneau, without citing specifics. ?We're also seeing specialized risk requests, such as terrorism cover, in industries in which we were not previously involved,? he adds. This suggests a possible entry for multilateral guarantees in, among other places, the Gulf hydrocarbon market, particularly with banks looking for more protection on particular risks.
What lending concerns?
The major commercial banks doing project finance in the Gulf region remain, on the whole, fairly sanguine. War risk is excluded from many of the major projects currently coming to the Gulf market, which means that the banks have to take a view on it. And indeed, in the financing arrangements they have.
The projects which will set the new tone for regional project deal-making, UAE's Shuweihat independent power and water project (IWPP) and Oman LNG's refinancing, are both moving forward. Says RBS's Michael Crossland, ?these deals will really be the litmus test for regional project finance in the current climate. Ultimately, doing deals here will be about lender confidence.? And not, it seems, about the cost of insurance cover.
In fact, current talk of pricing shifts in insurance premiums affecting regional deal structures is, according to some, simply premature, if not academic. ?It's a bit of a detail at the moment,? says one regional banker. ?In the end, if you need insurance, whatever kind, you can get it. And if confidence returns to the market, maybe the insurance market will even have to lower its premiums.? Says the banker, ?the insurance companies need to be careful not to price themselves out of the business. We don't expect sponsors to take out massive cover at high cost ? we can work around it, after all.?
Admits one private insurer, ?what's most apparent these days is the drop off in the number of bank inquiries. The market generally is very quiet at the moment.? This perhaps comes as no surprise, with commercial lenders, as much as anyone else, taking the cautious wait-and-see approach.
Nonetheless, the issue plaguing most Gulf-oriented bankers is syndication risk, and the depth of the second-tier market. ?At the end of the day, uncertainty doesn't bode well for the international syndications market,? says Crossland. But he, like most of his colleagues, remains hopeful about the prospects of deals like Shuweihat reinvigorating that market.
But precisely as a result of impending syndication concerns, in the Gulf as in other emerging markets, insurers are drawing up specialized products to deal with such risks. Zurich Emerging Market Solutions, recently put together a syndication risk coverage product, ?directly in response to the need to innovate to meet the needs of our banking clients in the current climate,? according to Daniel Riordan, a managing director at Zurich.
The product is designed initially as a 3-month standby credit insurance policy to take banks through the syndication process. As a backstop to the banks, that standby can be converted to a full credit risk coverage facility, with a 7-year term and a $35 million ceiling, if syndication is unsuccessful.
Says Riordan, ?we've seen increased demand for our comprehensive political and credit product. But we're very cautious about how we underwrite that risk ? we're looking even more carefully at what risks we'll accept, but its really a case by case evaluation.?
Cooperative cover
In a move to bolster efficiency, there has been a growing trend towards greater cooperation between the public and private ends of the insurance industry, an inclination dating back long before September 11. Says Christina Westholm, vice president at Sovereign Insurance, ?we've been well on our way to creating a climate where public and private markets were more closely integrated and it may be that going forward this integration is facilitated even more.?
Private firms, multilaterals and export credit agencies are coming together to provide more flexible solutions for some of the larger deals. Beyond co-insurance, cooperation between public and private is also extending to re-insurance. If, for example, an ECA is supporting, say, a $100 million water project, it can turn to a private insurer to buy cover for its own risk. Zurich recently provided such reinsurance for the Inter-American Development Bank on a $120 million power project in the Dominican Republic.
Riordan also cites last year's Antamina goldmine project in Peru as another example of public/private insurance cooperation, bringing toegther, among others, EDC, Zurich, AIG, Sovereign and MIGA.
US Exim Bank is also cooperating more closely with institutions like Miga, to help provide investment insurance for emerging market companies seeking to expand into other countries. The most recent example is in Thailand, where the groups will help to develop guarantee and insurance products for Thai investors.
Investors uncertain about political risks in certain regions would eventually be able to reach out to Exim Bank and Miga for coverage. Some risks which could be covered by Miga include capital transfer restrictions, expropriation, war and civil disturbances. Insurance premiums generally range from 1-2% of the total investment, depending on the country and project involved.
Miga's own relationship with the private sector is, as Pruneau puts it, ?ever better. In the past we may have operated in isolation, but no longer.? He adds, ?We are increasingly asked to play an arranger role in a lot of project deals and to support that role there's a massive insurance requirement, particularly for syndicating large sums. But we are very enthusiastic about taking on more of these transactions in the future.?
Capital idea?
According to many market observers, aside from an impending wave of refinancings, capital markets are likely to be tapped with more regularity for project finance deals in the coming year. And with that, a possibly greater role for bond insurers.
Says Riordan, ?we'll see a shift to capital market financing because of the longer time horizon and because such structures require smaller amounts of coverage than bank debt.?
Zurich's record of covering corporate and project bond issues is impressive. Its products allow, for example, a strong corporate operating in an emerging market and constrained by that country's rating to strip away the sovereign risk. Its bond rating can then be raised to the level of the corporate itself. This is a particularly efficient use of political risk insurance because ratings agencies typically only require 10% of the value of the bond to be covered in order to raise its rating.
Earlier this year Zurich completed its sixth such transaction, a $450 million deal for Petrobras in Brazil. By providing 18 months cover for the transfer and convertibility risks it was able to lift the bond rating by four notches to Baa1. Funds from this issue are now being used to finance the importation of oil and oil products.
Mulitlaterals like Miga bring added clout to capital market issues. ?With our wrap around a project we've been able to raise the level of a project, in, say, the Brazilian market, by six levels,? says Pruneau.
But the key issue ? the impact of more expensive capital on the possibility of taking out corporate and project bonds ? remains to be seen. Capital market transactions in fact may contract in the short run, particularly in emerging markets, as investors shy from the market. However, says Pruneau, ?there is no question that bonds will become more prevalent for project financings, given the increasing sophistication of capital markets.?
Those bond insurers for whom business is likely to be largely unaffected by recent shockwaves are the monoline insurers. Resting comfortably in a AAA sector, the monolines enjoy a narrow market for what is becoming an increasingly attractive product ? the wrapped bond for public sector backed infrastructure projects in developed markets.
Says FSA's Dominic Nathan, ?as far as monolines are concerned, not much has changed and the core of what we do has been unaffected by the events of September 11.? The firm is keenly eyeing a spate of forthcoming infrastructure transactions in Europe, particularly in the toll road sector.
Thus insulated, monoline insurance instruments are being used to perpetuate the growing trend towards capital market solutions for European infrastructure project financings. Forthcoming deals in Greece, Ireland, Spain, Portugal and the Netherlands are welcome challenges for FSA and its kin at Ambac and MBIA. Says Nathan, ?I don't believe pricing of wrapped bond issues for infrastructure deals in the continent will be affected by the deepening global slowdown.? And with the product having been winningly deployed earlier this year with the IP5 transaction, it looks set to become a more palatable fixture for similar transactions in an increasingly active market.
These are early days. Working out the implications of all this on project finance markets is, of course, still speculative at best, but at least one thing is certain: an acute contraction of capacity is creating shifts in political and credit insurance market practices more than any supposed heightening of country-specific risk. And the market is being reordered more by shocks to the global economy as a whole, more than by any military or political fallout.
Even so, as a direct result of the September attacks, initial feedback suggests that 8% to 10% of insurance markets' capital has been wiped out. On this evaluation, some $10 billion will need to be found to make up the shortfall, though total claims are likely to be substantially greater than that, (possibly up to $50 billion). And this undoubtedly will mean costs being passed on to customers across all classes of business. It's also likely that some insurers and reinsurers will fail, largely because of loss distribution. ?We're starting to hear a lot of rumblings about contraction in the reinsurance market ? that some of these guys aren't going to make it,? says Rod Morris, vice-president for insurance at OPIC.
As it stands, current perspectives are steeped in uncertainty ? particularly about how much insurers will be able to write, and about how much reinsurance they'll be able to buy. The scenario currently unfolding will be supply driven, more so than in previous years. Accordingly, appetite for large, long tenor deals will be trimmed back in favor of smaller, short-term deals. Unsurprisingly, politically susceptible regions area also likely to suffer from lack of insurer appetite.
The industry anxiously awaits the reinsurance renewal season next January ? negotiations which will largely determine the level of capacity available for future writing of credit and political risk insurance. There is, however, consensus that tighter reinsurance conditions will apply. And most companies' natural instinct in times of uncertainty is to concentrate capital on core activities.
Nor are potential risks specific to emerging markets. Many more corporate bankruptcies and delinquent loans are rearing their troublesome heads in developed markets as well. The result ? a so-called ?flight to quality', with lenders and insurers alike backing only the most bankable deals. Coupled with tighter capacity, some insurers, notably within Lloyd's, may start to limit their terms to 12 months ? anywhere.
But another school of thought holds that capacity constraints will ultimately rid the market of ?naïve capacity.' Explains Roger Pruneau, head of MIGA's guarantees department, ?people will begin to retrench when they realize that the market is inclined towards higher quality, or more expensive, transactions.?
To that extent, however, an unambiguous result of diminished capacity will be a shift in business terms in favor of insurers ? a tougher market and possibly higher premiums. ?Of course there will be a knock on effect on pricing. Prices are going up but its not yet consistent. The question is how rate increases will be applied,? says Peter Sprent, manager at AIG's political risk department.
So far, that remains to be seen, though ?judiciously' seems a safe description, particularly since, on average, rates in the PRI market are likely to increase by 30% from pre-attack rates.
But Pruneau, for one, cautions against drawing too assured a conclusion about pricing trends at this stage. He says, ?prices had been depressed in the reinsurance industry, for example, so the impact of the attacks needs to be put in perspective. I'm hard pressed to say that there will be a massive upward adjustment of prices.?
An interesting contrast will be the relative adjustment in pricing between private and public sector premiums for political and commercial risk. Multilaterals and bilaterals by and large are more expensive, but that gap may well close.
After all, MIGA, as a multilateral, does not price risk at market conditions. As such, says Pruneau, ?our pricing will only be affected to the extent we see different risk patterns emerging and, indeed, if we do see a likely ?flight to quality' then prices could even decline.?
As importantly, any impact on pricing also depends on the types of risk in question. And as far as non-commercial risk is concerned, the only potentially suspect class, compared to before September 11, is war risk or ?political violence' risk. Says Pruneau, ?other things being equal, most risks won't be impacted. For example, expropriation, currency transfer or inconvertibility and breach of contract are not going to be affected by recent events.?
Higher premiums?
One likely effect of tightening reinsurance terms is a stepping up of global reinsurance premiums. This would hit the return expectations of many power projects which have either reached financial close or are currently verging on being wrapped up. Rising reinsurance premiums would push up operation and maintenance costs, since insurance costs are typically treated as part of the operation and maintenance costs of power projects.
Reinsurance premiums had already been rising over the last few months and, in some cases, are 60% higher than last year. Rates are expected to be closer to 1% across assets or some of the insurance companies may simply refuse to assume the risk.
Consequently, industry sponsors may have to absorb additional costs owing to increases in reinsurance premiums. If the current situation of escalating premiums continues, many projects may have to scale down their return expectations substantially.
But even so, emerging market power deals are still getting closed successfully, albeit with significant multilateral assistance and specialized risk strategies. Remarkably, even Argentina bore witness to a power deal getting financed last month. Though a small, non-project finance transaction, the Central Dock Sud project, sponsored by YPF-Repsol, Endesa and Panamerican Energy, took out a 12 year $70 million EIB backed loan to fund its costs.
The loan, representing a fraction of the $400 million financing costs for the 775MW plant, is being provided in the context of EU cooperation with third countries. Risks of currency non-transfer, expropriation, war and civil disturbance are covered by the EU budget guarantee. Commercial risk is taken solely by private sector and the commercial banks, BNP Paribas and Societe Generale, both of whom are guaranteeing the loan to 50% each. The deal demonstrates a degree of commercial appetite even in the most daunting of macroeconomic environments.
Still hot?
Markets are far from stable. As OPIC's Morris puts it, ?the world is a riskier place post September 11. There's an awful lot of dislocation in the insurance market today. And there have been a lot of project cancellations due to political violence. In some cases contracts are being renegotiated to incorporate increased coverage rates at between 25%-1000%.? But the bottom line is that deals will still get done, even in seemingly unrelenting climates, if the right structures are in place.
The Gulf, with its profusion of hefty deal potential, is one region that may encounter greater risk perceptions in light of deeper regional sensitivities. But for most of the Middle East's energy industry, political risk has been always tucked away into business risk.
The possibility of losing cash on an investment as a direct result of political actions is an inescapable part of the industry ? whether through expropriation, war, civil unrest or, more commonly, simple contract frustration that hinders company operations.
But the aftermath of September's attacks on the US suggests no obvious risks to the Gulf oil and gas business, assuming retaliation is confined to Afghanistan. The costs of doing business, however, may rise. War insurance premiums levied after the attacks on the US have added around $0.20 per barrel to the cost of cargoes loading from Gulf ports. And the banking sector, being highly sensitive to change, can be quick to hike lending rates for investments in risky countries.
Perceptions of political risk can also damage a project's reputation for security, and thus customers' willingness to purchase production through offtake agreements. But the energy industry, demonstrating its business confidence, seems blithely unconcerned, with very few of the majors having taking out new insurance policies. If anything, most major companies will have already adjusted projected cashflow for risk. Many majors treat political risk as an inherent part of their business ? they've been dealing with it for decades. For example, as Project Finance went to press, TotalfinaElf had set about loudly reaffirming its confidence in its market strength, amid growing concerns from smaller companies of political risk. Among other regional ventures, TotalFinaElf is co-sponsor of the sizeable Dolphin gas project, as well as being involved in Saudi Arabia's ambitious gas initiatives.
Of course, political risk can be insured against, although the costs vary widely, depending on the location and type of project. Particularly risky deals can command premiums of up to 5% of the total insured value ? if coverage is obtainable at all. But while political risk insurance can help smaller projects, many energy deals are simply too big for multilateral or private insurers to cover.
For instance, AIG will cover transactions up to a maximum of $50 million and up to a total of $450 million per country. And MIGA, as part of the World Bank, affords an extra level of protection.
?We're beginning to see oil and gas deals coming to us for preliminary consultations,? says Pruneau, without citing specifics. ?We're also seeing specialized risk requests, such as terrorism cover, in industries in which we were not previously involved,? he adds. This suggests a possible entry for multilateral guarantees in, among other places, the Gulf hydrocarbon market, particularly with banks looking for more protection on particular risks.
What lending concerns?
The major commercial banks doing project finance in the Gulf region remain, on the whole, fairly sanguine. War risk is excluded from many of the major projects currently coming to the Gulf market, which means that the banks have to take a view on it. And indeed, in the financing arrangements they have.
The projects which will set the new tone for regional project deal-making, UAE's Shuweihat independent power and water project (IWPP) and Oman LNG's refinancing, are both moving forward. Says RBS's Michael Crossland, ?these deals will really be the litmus test for regional project finance in the current climate. Ultimately, doing deals here will be about lender confidence.? And not, it seems, about the cost of insurance cover.
In fact, current talk of pricing shifts in insurance premiums affecting regional deal structures is, according to some, simply premature, if not academic. ?It's a bit of a detail at the moment,? says one regional banker. ?In the end, if you need insurance, whatever kind, you can get it. And if confidence returns to the market, maybe the insurance market will even have to lower its premiums.? Says the banker, ?the insurance companies need to be careful not to price themselves out of the business. We don't expect sponsors to take out massive cover at high cost ? we can work around it, after all.?
Admits one private insurer, ?what's most apparent these days is the drop off in the number of bank inquiries. The market generally is very quiet at the moment.? This perhaps comes as no surprise, with commercial lenders, as much as anyone else, taking the cautious wait-and-see approach.
Nonetheless, the issue plaguing most Gulf-oriented bankers is syndication risk, and the depth of the second-tier market. ?At the end of the day, uncertainty doesn't bode well for the international syndications market,? says Crossland. But he, like most of his colleagues, remains hopeful about the prospects of deals like Shuweihat reinvigorating that market.
But precisely as a result of impending syndication concerns, in the Gulf as in other emerging markets, insurers are drawing up specialized products to deal with such risks. Zurich Emerging Market Solutions, recently put together a syndication risk coverage product, ?directly in response to the need to innovate to meet the needs of our banking clients in the current climate,? according to Daniel Riordan, a managing director at Zurich.
The product is designed initially as a 3-month standby credit insurance policy to take banks through the syndication process. As a backstop to the banks, that standby can be converted to a full credit risk coverage facility, with a 7-year term and a $35 million ceiling, if syndication is unsuccessful.
Says Riordan, ?we've seen increased demand for our comprehensive political and credit product. But we're very cautious about how we underwrite that risk ? we're looking even more carefully at what risks we'll accept, but its really a case by case evaluation.?
Cooperative cover
In a move to bolster efficiency, there has been a growing trend towards greater cooperation between the public and private ends of the insurance industry, an inclination dating back long before September 11. Says Christina Westholm, vice president at Sovereign Insurance, ?we've been well on our way to creating a climate where public and private markets were more closely integrated and it may be that going forward this integration is facilitated even more.?
Private firms, multilaterals and export credit agencies are coming together to provide more flexible solutions for some of the larger deals. Beyond co-insurance, cooperation between public and private is also extending to re-insurance. If, for example, an ECA is supporting, say, a $100 million water project, it can turn to a private insurer to buy cover for its own risk. Zurich recently provided such reinsurance for the Inter-American Development Bank on a $120 million power project in the Dominican Republic.
Riordan also cites last year's Antamina goldmine project in Peru as another example of public/private insurance cooperation, bringing toegther, among others, EDC, Zurich, AIG, Sovereign and MIGA.
US Exim Bank is also cooperating more closely with institutions like Miga, to help provide investment insurance for emerging market companies seeking to expand into other countries. The most recent example is in Thailand, where the groups will help to develop guarantee and insurance products for Thai investors.
Investors uncertain about political risks in certain regions would eventually be able to reach out to Exim Bank and Miga for coverage. Some risks which could be covered by Miga include capital transfer restrictions, expropriation, war and civil disturbances. Insurance premiums generally range from 1-2% of the total investment, depending on the country and project involved.
Miga's own relationship with the private sector is, as Pruneau puts it, ?ever better. In the past we may have operated in isolation, but no longer.? He adds, ?We are increasingly asked to play an arranger role in a lot of project deals and to support that role there's a massive insurance requirement, particularly for syndicating large sums. But we are very enthusiastic about taking on more of these transactions in the future.?
Capital idea?
According to many market observers, aside from an impending wave of refinancings, capital markets are likely to be tapped with more regularity for project finance deals in the coming year. And with that, a possibly greater role for bond insurers.
Says Riordan, ?we'll see a shift to capital market financing because of the longer time horizon and because such structures require smaller amounts of coverage than bank debt.?
Zurich's record of covering corporate and project bond issues is impressive. Its products allow, for example, a strong corporate operating in an emerging market and constrained by that country's rating to strip away the sovereign risk. Its bond rating can then be raised to the level of the corporate itself. This is a particularly efficient use of political risk insurance because ratings agencies typically only require 10% of the value of the bond to be covered in order to raise its rating.
Earlier this year Zurich completed its sixth such transaction, a $450 million deal for Petrobras in Brazil. By providing 18 months cover for the transfer and convertibility risks it was able to lift the bond rating by four notches to Baa1. Funds from this issue are now being used to finance the importation of oil and oil products.
Mulitlaterals like Miga bring added clout to capital market issues. ?With our wrap around a project we've been able to raise the level of a project, in, say, the Brazilian market, by six levels,? says Pruneau.
But the key issue ? the impact of more expensive capital on the possibility of taking out corporate and project bonds ? remains to be seen. Capital market transactions in fact may contract in the short run, particularly in emerging markets, as investors shy from the market. However, says Pruneau, ?there is no question that bonds will become more prevalent for project financings, given the increasing sophistication of capital markets.?
Those bond insurers for whom business is likely to be largely unaffected by recent shockwaves are the monoline insurers. Resting comfortably in a AAA sector, the monolines enjoy a narrow market for what is becoming an increasingly attractive product ? the wrapped bond for public sector backed infrastructure projects in developed markets.
Says FSA's Dominic Nathan, ?as far as monolines are concerned, not much has changed and the core of what we do has been unaffected by the events of September 11.? The firm is keenly eyeing a spate of forthcoming infrastructure transactions in Europe, particularly in the toll road sector.
Thus insulated, monoline insurance instruments are being used to perpetuate the growing trend towards capital market solutions for European infrastructure project financings. Forthcoming deals in Greece, Ireland, Spain, Portugal and the Netherlands are welcome challenges for FSA and its kin at Ambac and MBIA. Says Nathan, ?I don't believe pricing of wrapped bond issues for infrastructure deals in the continent will be affected by the deepening global slowdown.? And with the product having been winningly deployed earlier this year with the IP5 transaction, it looks set to become a more palatable fixture for similar transactions in an increasingly active market.
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