An IFEX ELF is a Contract for Difference

The Protection Buyer and the Protection Seller contract through the clearing system for the relevant contract risk period.

This is done on-line and screen trading can hence be anonymous - or initially agreed Over The Counter (OTC) and then concluded on-line; a so called 'Block Trade'.

The Protection Buyer selects the appropriate territory - e.g. ‘US T & P Wind’ or ‘Florida Wind’ or some other.

The Protection Buyer also selects a Loss Trigger Level (LTL) and whether this is to be based upon a first, second, third or fourth event.

The Protection Buyer also decides how many lots he wishes to buy. Each lot is equal to $10,000 and this is then the contract limit/notional value.

There is a bid' and an ‘offer’ price. The 'bid' price is the price at which Protection Buyers are prepared to buy. The 'offer' price is the price at which Protection Sellers are prepare to sell.

The price at which a transaction is concluded is the initial 'contract price'. Prices will fluctuate depending upon supply and demand and will be reported at the end of each day as the 'Daily Price'.

The initial contract price, and the daily price thereafter can be expressed as a rate on line. Hence a price of '20' means 20% x contract limit/notional value.

A change in price will result in an immediate flow of Variation Margin between the parties. This occurs twice daily. This is the 'marked to market' process.

What happens if a hurricane loss occurs?

If within the contract year a hurricane loss occurs equal to or in excess of the chosen LTL for the selected territory,  the daily price moves to 100.  At this point, the contract limit/notional value is payable. However, by then, the Protection Seller will have already (progressively) paid some Variation Margin to the Protection Buyer - so only the residual amount remains payable.  

Hence, ultimately, if an insured loss does occur (and the contract is therefore settled at 100), the Protection Seller will have progressively paid to the Protection Buyer Variation Margin equal to the difference between the contract limit/notional value and the initial contract price.

One can think of this as a claim being (progressively) paid net of premium.

What happens if no hurricane loss occurs within the contract risk period?

If no hurricane causes a  loss equal to or in excess of the chosen LTL,  then the daily price automatically moves to zero at the end of the contract risk period. By then, the Protection Buyer will have (progressively)  paid to the Protection Seller  the initial contract price as Variation Margin.

One can think of this as the equivalent of the buyer paying a premium.

Trading IFEX ELFs.

The similarity with traditional reinsurance ends with the two examples of a settled contract described above. Unlike a traditional reinsurance contract, IFEX ELFs can be bought and sold throughout their life with minimal transaction costs.

This means that having bought an IFEX ELF Contract at a price of 20  -  if the daily price then rose to 25 - the Protection Buyer has made a profit of 5% of the contract limit/notional value if it sold the contract at that point, and an equivalent loss is incurred by the Protection Seller.

The Protection Buyer can never be exposed to a greater financial loss than the initial contract price.

The Protection Seller can never be exposed to a greater financial loss than the difference between the contract limit/notional value and the initial contract price.