Betting on natural disasters has been one of the best investments since the financial crisis

Catastrophe bonds fell behind only silver, gold, and high-yield bonds as one of the best investments since the financial crisis.(Deutsche Bank via Artemis)

Catastrophe bonds—essentially a gamble on the likelihood of natural disasters—have been the fifth best-performing asset class since the financial crisis, according to research conducted by Deutsche Bank (and shown above). If you had invested your money at the fall of Lehman Brothers in September 2008, only silver, gold, and high-yield debt from the US and the European Union would have made you more money.

As we’ve written before, catastrophe bonds—cutely called “cat bonds”—are a relatively new breed of investment. They are issued by companies, public organizations, or insurers that are vulnerable to unpredictable, weather-related disasters. As with any other bond, the issuer usually pays back a cat bond’s value after a certain period, with interest. But with cat bonds, if some kind of natural disaster lands the issuer with unexpected costs—an unusually high number of insurance claims, for instance—then it doesn’t have to pay back the full amount on the bond or all the interest.

For example, at the end of July New York City’s Metropolitan Transit Authority (MTA) issued cat bonds to raise money in case the subway system floods in the next three years, as it did during last year’s Hurricane Sandy. If a flood comes and costs the MTA more than a certain amount, it might not pay back some of the cat bond debt.

So why have cat bonds done so well in the last few years? Because they have practically no relationship to financial markets. This doesn’t mean they’re particularly safe; we’ve written before about the possibility of a bubble forming in the insurance industry. Then again, when the entire market can shift after a few comments from Federal Reserve chairman Ben Bernanke, as it did this week—or rests on the health of dubious bets from the financial industry—gambling on the likelihood of a natural disaster doesn’t sound like such a bad idea.

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