Journal of Risk

The valuation of contingent convertible catastrophe debt under simple solvency and liquidity covenants

Nick Georgiopoulos

  • Contingent write-off capital or CoCoCAT is issued mostly for liquidity purposes.
  • Liquidity and not solvency prevent issuers from issuing too much CoCoCAT.
  • A CoCoCAT allows tax shields for the issuer yet liquidity seems to be more important.
  • CoCoCAT is part of the innovation in the reinsurance markets like insurance linked securities.


We study a new bond-like security that is a write-off debt instrument whose writeoff is triggered by solvency and event-driven covenants. This instrument is called a contingent convertible catastrophe (CoCoCAT) bond. To price it, we employ a contingent-claims-valuation approach by jointly valuing all corporate securities of the issuing firm and we derive the write-off and default policies for the CoCoCAT investors and the equity holders, respectively. We find that under simple solvency covenants the issuer finds it optimal to lever 100% with CoCoCAT debt to extract tax shields. We also find that simple liquidity covenants can explain why issuers do not issue too much debt: liquidity may be more valuable than tax shields. We analyze the security using both a diffusion process and a jump-diffusion process for the claims.

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