As the data centre build-out continues to expand as an emerging field across the industry, it appears very likely that insurers, reinsurers and various organisations may turn towards catastrophe bonds to source risk capital for these facilities, according to John Seo of Fermat Capital Management LLC.
The sheer scale of investment required for AI infrastructure is creating a concentration of risk that traditional markets may struggle to absorb.
Seo addressed this trend, stating: “So the question must be about the fact that we’re building these large data centres to power AI, and they’re incredibly expensive and they’re in harm’s way. So, yeah, that’s an emerging field, I’m not sure where it’s going to go. But I think that there’s better than a 50-50 chance that we’ll have cat bonds,”
Historically, the catastrophe bond market has been widely synonymous with coastal risks specifically wind and earthquake coverage in Florida and California. However, Seo explained how the geography of risk is beginning to shift towards the center of the United States.
“To set the stage here, historically, the cat bond market in the US was a coastal market. So let’s say in the US, you’ve got California here and you’ve got Florida here, and that dominated the cat bond market.
“What’s interesting to see is that, in the old days we actually had zero exposure in Texas, for example. So, it was Florida first, California second, and it just fell off a cliff from there. Now, Texas is actually our second largest exposure in the capital market. California is in fourth place.
“I do point out that Elon Musk, I believe, moved from California to Texas, right? So now what we’re seeing is a huge shift in economic activity to the centre of the US, and a lot of that is actually being led by AI data centres.”
He continued: “Turns out you can’t take an AI data centre and put it on the coastlines, because you’ll crash the grid. The grids are overburdened there. So they have to follow where the power availability is and what they’re doing is they’re building facilities that are $20 to $30 billion at a pop.”
In addition, Seo also emphasised that while these facilities are moving away from hurricanes, they are moving directly into the path of other severe convective storms.
“Remember I said that it’s really about the exposure is growing and it’s more concentrated. This is the ultimate very, very expensive and concentrated exposure. The centre of the US is actually tornado alley. So a single tornado can take out a $30 billion facility that’s built fully-based on loans and finance where that facility is the sole collateral.”
To conclude, Seo articulated how the future of data centre development may depend on the ability to secure large-scale risk capital. Without the protection of catastrophe bonds, the financial foundations of these multi-billion dollar projects could be at risk.
“So the formula is very, very powerful. It’s very likely that we’ll see catastrophe bonds being required to cover these facilities in order to allow people to lend money against them. Because if the collateral is completely vulnerable to a single tornado event, it makes it more difficult to actually lend against it efficiently.”
Also read: Cat bond market fundamentals are tremendous. Growth absolutely expected & sustainable: John Seo.
