What Should Retail Investors Consider Before Buying Cat Bond ETFs?

Investor access to catastrophe bonds continues to become easier since the Brookmont Catastrophic Bond ETF (ticker ILS)¹, the first cat bond ETF listed in the US², began trading in April 2025. We believe the ETF wrapper brings some key investor benefits thanks to its structure: key among these are intra-day liquidity, portfolio transparency, and a fee structure that is typically less expensive than private fund or hedge fund offerings.

Investors are often drawn to cat bonds because their floating-rate yields can be greater than the yields of other bonds, and because their total returns are based on randomly-occurring nature-related events and not economic or market-driven factors.³ We believe it’s important for investors to have a clear understanding of how cat bonds work and risks and rewards that accompany them so that they can be educated investors in any investment product that holds them. Including a cat bond ETF.

Risk-Return Profile

First, let’s break down the core facets of catastrophe bonds.

It’s true that cat bonds can often offer better yields than other high-yielding bonds, but they are unlike traditional fixed income instruments because their underlying exposure to insurance assets make it more difficult to predict potential losses. Since cat bonds are tied to natural devastation, they are susceptible to principal loss if and when that event occurs.⁵ This reality likely adds complexity to investors who need to understand the risks being taken by each fund or position in their overall portfolio. Understanding portfolio risk is particularly important for investors who intend to own cat bonds as part of their fixed income portfolio.

In our opinion, the very way that cat bonds are structured to only incur losses if a specific weather event achieves highly-detailed, pre-determined thresholds, provides a protective benefit for investors as these loss thresholds are defined and transparent. Developing an understanding of how these losses might be incurred will make for a smarter, more informed investor approach.

Diversification & Seasonality

Accessing an asset class through an ETF or other type of commingled fund can often improve diversification and spread out risk, especially compared to the alternative of directly owning the underlying asset(s). ⁶

Within an ETF, cat bond exposure can be diversified across many event types and locations to alleviate the fund’s total risk. When doing ETF or fund due diligence, we believe investors should generally look for funds with portfolio managers (or underlying indexes, if the product is not actively managed) that invest in a variety of bonds with multiple exposures (like hurricanes, earthquakes, wildfires, other weather events) and that the holdings are exposed to risks that are spread across different geographies.

Investing across a variety of events will continue to offset concentration risk, and it can improve a fund’s risk file by attempting to address seasonality and avoid periods where loss-potential might be more concentrated. For example: North American hurricanes happen in late summer and early fall, whereas wildfires are typically common in the spring. Earthquakes aren’t tied to any time of year or season. An ETF with exposures across many perils and regions, each with varying probability, should further help protect its investors.

We recognize that any investment in an ETF that only invests in cat bonds is by definition a concentrated investment. But thoughtful investors can and should do some basic due diligence about how the fund is constructed so that they can gain a better understanding of the risk they might be introducing to their larger, more diversified, portfolio.

Before Moving Forward

We believe that the institutional history of owning catastrophe bonds proves that investing in cat bonds can be lucrative, but no two are the same and each investment vehicle has pros and cons. As we’ve just laid out, there are many factors that can expose investors to potential risk.

Before allocating to cat bonds, here are some questions that that could be worth asking:

• Do I understand how this investment works?
• Am I investing for income? Total return? Both?
• What’s the fund/portfolio manager/underlying index diversification strategy? What is the peril mix, geography, attachment levels, etc.?
• Am I aware of and comfortable with the fund’s underlying portfolio’s seasonal volatility and potential tail-risk events?
• How much of my total portfolio can I afford to lose if a large catastrophe hits?

The Brookmont Catastrophic Bond ETF (ILS)

For those who believe they’ve done their cat bond homework, the next question is access. The ILS ETF aims to lower the historical barriers to cat bond access and change the allocation equation as it offers its shareholders intra-day liquidity on the NYSE, daily portfolio transparency, and professional active management through Brookmont Capital and King Ridge Capital Advisors, teams with deep ILS and reinsurance market expertise. ILS also seeks to bring the diversification principles outlined above: exposure spread across multiple peril types and geographies, designed to manage concentration risk and seasonal volatility.

For investors who might be attracted to non-correlated, floating-rate income that is structurally independent of equity markets and credit cycles, ILS looks to bring what was once a largely institutional opportunity to the marketplace with single ticker exposure.

Sources