Life reinsurer Scottish Re has completed a $155 million securitization that transfers catastrophic mortality risk – the risk of many people dying at once from a big event – to the capital markets. It is only the second company to securitize this kind of risk. Swiss Re was the first with its two Vita Capital deals, the most recent of which was completed in April 2005.

The reinsurer launched the bond to protect itself against increases in U.S. mortality rates or a global pandemic of a disease such as bird flu hitting the U.S. Its decision to arrange the cover was prompted partly by its decision to use the capital markets where appropriate, and partly by its desire to ensure it is covered against all types of peak risks.

“Before September 11, we were one of the only reinsurers that had catastrophe coverage in case something like September 11 occurred,” says Paul Goldean, executive v.p. and general counsel for Scottish Re. “We always ensure that if there is a risk of a large hit to our book we have cover for it. Given all the concern about pandemics, it would be irresponsible of us not to get some sort of coverage.”

The company had originally approached the traditional retrocession market for the coverage, but felt that a securitization offered better coverage at a better price. “Around the summer of 2004 we were working on an indemnity type of transaction with a retro provider,” says Michael Baumstein, senior v.p. of capital markets at Scottish Re. “When the pricing and coverage came out, we decided the capital markets were the more efficient way to go.”

The bonds, issued by special-purpose vehicle Tartan Capital, were split into two classes: $75 million-worth of class A bonds rated Aaa by Moody’s and AAA by Standard & Poor’s, and $80 million-worth of class B bonds rated Baa3 by Moody’s and BBB by Standard & Poor’s.

Because the Tartan deal protects Scottish Re against pandemics, it was a little tougher to sell to investors than first thought.

“We went to market originally six weeks ago with a $150m transaction,” says Baumstein. “The goal was between $150 million and $200 million.”

The furore in the media about a possible bird flu pandemic was at its peak at the time Scottish was going to market. This deterred some investors. “We had expected them to be reluctant but it was a little more difficult that we anticipated,” says Baumstein.

Investors were most worried about the risk of the class A notes. In response to this, the company bought a financial guarantee from Financial Guaranty Insurance Company to cover the class A notes, giving them a triple-A rating. The class B notes were left unwrapped.

Despite the initial caution about pandemics, some believe investors warmed to the deal. “It was ultimately well received by investors. It was upsized a bit,” says Mike Millette, a managing director at investment bank Goldman Sachs, which was the lead book runner on the Tartan deal. “But it certainly took some work to sell a bond that is mainly triggered by a pandemic when the news media has headlines running many times a day about the possibility of such an event.”

The Tartan deal is a $300 million shelf program, so Scottish Re has the option to issue a further $145 million of bonds from it if required.