The Pandemic Emergency Financing Facility (PEF) was launched in 2016 by the World Bank as a response to the West Africa Ebola Crisis in 2014. It issued ‘pandemic bonds’, designed to provide immediate funding – that would likely not be available via the capital markets – to poorer countries to help them fight a large-scale outbreak of a virus or disease. Whilst the PEF bonds weren’t the first mortality-based bond – Swiss Re issued a few between 2003 and 2015 – they were the first to be sponsored by a supranational body.
At the time, investors seemed bullish on the idea; The World Bank raised $425mn ($320mn in bonds and $100mn in swaps) in an over-subscribed offering.
But it’s been two years now since the World Bank closed its Pandemic Emergency Financing Facility (PEF) and the consensus is that there won’t be any more pandemic bonds. And according to John Kiff, who was a Senior Financial Sector Expert at the International Monetary Fund (IMF) from 2005 to 2021, that shouldn’t be a surprise.
“There are two reasons why mortality-linked bonds, like pandemic bonds, won’t work. First, it’s incredibly difficult to model them because there is a lack of information, and second, the political flak they [World Bank] got last time makes it just not worth it for them again.”
The information issue is a clear roadblock on the route to pandemic bonds ever returning. Pandemics occur infrequently and randomly, and investors, which are used to consuming – in many cases, vast quantities of – data upon which to make an investment decision, can’t accurately judge the risk and return profile of pandemic-based investments. Kiff likens investing in pandemic bonds to a game of chance.
“You’re basically building a bond around a coin flip. No-one would buy fixed income on a coin flip operation. Investors are generally smart and only enter markets where they think they have an edge. That’s not the case with a coin flip operation.”
The public perception issue is the other roadblock. The PEF was criticised in some quarters for being too slow to pay out and criticised in others for seeming to favour investors over the actual beneficiaries of the program. Coupons paid to the bond investors ran at 6.9% for the first tranche and 11.9% for the second, reflecting the risk that investors were taking on (and ultimately lost money on when the criteria for paying out were met). In today’s environment, coupons would need to be higher still to persuade investors to take on the risk because of both the higher interest rate environment markets find themselves in and recency bias. Investors won’t underwrite a pandemic bond program without being compensated for doing so, but rates that high can come with political and public relations risk.
The transfer of other mortality-based risk to the capital markets is robust, however. The ‘life ILS’ market, whilst small, is well established, where over the counter, ‘value in force’ transactions are commonplace between life insurance companies and investment firms. The catastrophe bond market, whilst not a pure-play mortality risk market, has significant overlap, and is similarly well established. But transactions in these sectors are still heavily data-based, and the investors in these two markets are working with data that is known, that occurs with a higher degree of predictability, a higher degree of frequency, and is similar to that which has gone before.
“Natural catastrophe risk goes back decades. There is lots of really good data about wind speeds, where hurricanes land and the damage they do at different levels of intensity,” said Kiff. “But a mortality risk bond, for example a pandemic bond, is almost pure speculation.”
It does indeed seem like the World Bank has given up on the idea of pandemic bonds. In November last year, the organisation officially announced The Pandemic Fund, a new initiative designed to provide financing to developing countries to support them in the event of another pandemic. In February, $300m of financing was approved for the first round of funding, and last month, the Fund issued a Call for Proposals, with a mid-May deadline for eligible countries to get their pitches in (the World Bank declined to comment for this article).
Still, an article from Reuters in early March suggested that, despite $1.6bn being raised so far, the total amount needed is closer to $10bn. So, could pandemic bonds still be an option here?
Surely, if the price is right – i.e., the interest rate on the bonds – then some investors would undoubtedly go back in. But ultimately, a resurrection of the PEF can only work if investors can better model the risk – an undertaking that’s an extraordinarily difficult one.
“You could make the case that holders of longevity risk might be interested in adding mortality risk because if you’re covering someone else’s longevity risk, pandemics reduce your risk,” said Kiff. “But a pandemic is a tail risk event, and that’s where the data problem is. A pandemic isn’t something you can predict. You can’t say ‘here’s all the conditions that led to the Covid pandemic and the triggers so we’ll repeat this’ because the next one will be different.”
