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Solvency II A Work in Progress

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Title: Solvency II A Work in Progress


1
Solvency IIA Work in Progress
CAE Meeting, Zurich Alessa Quane November 29, 2007
2
Agenda
  1. Introduction Timing Update
  2. Implications for Firms Actuaries
  3. Directive Issues under Debate
  4. QIS 3 Results
  5. Conclusions

3
Soundbites
This is an ambitious proposal that will
completely overhaul the way we ensure the
financial soundness of our insurers. Charlie
McCreevy, European Commissioner for Internal
Market and Services We are setting a
world-leading standard that requires insurers to
focus on managing all the risks they face and
enables them to operate much more efficiently.
Its good news for consumers, for the insurance
industry and the EU economy as a whole - Charlie
McCreevy, European Commissioner for Internal
Market and Services Solvency II is not just
about capital. It is a change of behavior.
Thomas Steffan, Chairman of CEIOPS The purpose
of Solvency II is not necessarily to strengthen
the industrys capital base, but more to ensure
that sufficient regulatory and internal risk
management controls are in place to enable
management and regulators to more fully
understand and control the dynamics of the
industrys risk profile. Simon Harris, Moodys
Team Managing Director for European Insurance.
4
Three Pillars of Solvency II
Surplus
Surplus
Assets
Disclosure Requirements
Assets

Add-Ons
SCR
SCR
MCR
MCR
Risk Margin
Risk Margin
Liabilities
Liabilities
Firm Analysis
Supervisory Analysis
5
Solvency II Timetable
2012
2010
2011
2009
2008
2007
2006
2005
Full Implementation
Framework Directive Published
Directive Development
Directive Adoption
QIS 1
QIS 4
QIS 2
QIS 3
Further QIS
SCR/MCR Own Funds Groups Simplifications
6
Implications for Firms
  • Require more formal approach to governance
    demonstrating that insurers are aware of the
    risks affecting their business and that they have
    embedded this awareness in the daily running of
    the business.
  • Cost of compliance is likely to be significant
    and will be a large change for many
    jurisdictions.
  • Likely to be winners and losers due to the
    solvency standards changing.
  • Move toward risk sensitive pricing as data begins
    to improve at a more granular level to support
    internal modeling. This will lead to great
    segmentation and value driven products.
  • Further fuel the rating agencies shift in focus
    onto companies risk management frameworks and
    desire for disclosure.

7
Implications for Actuaries
  • Require more complex analysis and systematic
    approaches to risk management. This will
    increase the demand for actuaries and risk
    management personnel.
  • Need to more closely coordinate with finance,
    risk management and other business functions.
  • Better explanation of assumptions, sensitivities,
    limitations and methods underlying the
    computations and results to senior management who
    will be relying on this information throughout
    the risk embedding process.
  • Increase in the development of advanced
    analytical tools and systems capable of providing
    a more informed basis for control and
    decision-making.

8
Highlighted Concerns with Directive
  • Non-EU supervisors and group proposals
  • Equivalence of regimes
  • Level playing field for EU vs non-EU groups
  • Application of a consistent economic assessment
    of available and required capital to all
    businesses, both EEA and non-EEA
  • Structure and calibration of the MCR
  • Ladder of intervention
  • Consistent framework
  • Geographic diversification
  • Credit should be considered
  • Legal entity vs risk exposure
  • Group support

9
Goals of QIS 3
  1. Obtain further information about the practicality
    and suitability of the calculations involved and
    alternatives tested.
  2. Obtain quantitative information about the
    possible impact on balance sheets and the amount
    of capital required if the approach and
    calibration as set out in QIS3 were to be adopted
    as the standard.
  3. Collect information about the suitability of the
    suggested calibration for the calculation of the
    SCR and MCR.
  4. Initial test on the effect of applying the
    specification to insurance groups.

10
Participation in QIS 3
28 out of 30 member states participated 1027 solo
entities increase of 100 over QIS2 51 groups
participated
Type of Firm Small Medium Large Total
Life 116 135 79 330
Non-Life 254 194 63 511
Reinsurer 12 10 6 28
Composite 40 79 39 158
Total 422 418 187 1027
Mutuals thereof 118 99 34 251
Health thereof 16 30 10 56
11
Participation in QIS 3
Country Life Non-Life Reinsurance Composite Total
Austria 6 10 0 11 27
Belgium 1 6 0 8 15
Bulgaria 2 4 0 0 6
Cyprus 3 2 0 0 5
Czech Republic 1 3 0 8 12
Denmark 31 38 0 0 69
Estonia 4 3 0 0 7
Finland 8 11 0 0 19
France 41 52 2 59 154
Germany 60 110 9 0 179
Greece 1 0 0 0 1
Hungary 4 3 0 6 13
Iceland 2 5 0 0 7
Ireland 16 16 7 0 39
Italy 29 26 0 18 73
Latvia 1 1 0 0 2
Lithuania 3 8 0 0 11
Luxembourg 6 7 3 0 16
Malta 2 2 0 1 5
Netherlands 14 44 0 0 58
Norway 3 16 0 0 19
Poland 9 15 0 0 24
Portugal 14 14 0 5 33
Slovakia 3 0 0 2 5
Slovenia 2 2 2 5 11
Spain 15 57 2 34 108
Sweden 14 13 0 0 27
United Kingdom 35 43 3 1 82
Total 330 511 28 158 1027
12
Participation in QIS 3
Average market share coverage was 69 for life,
63 for non-life and 79 for health Internal
Model submissions included
Number of Models Life Non-Life Composite
Full 54 56 15
Full and Partial 55 65 15
Represents 13 of firms, by submission numbers
13
Financial Impact Based on QIS 3
  1. No significant overall change in terms of the
    composition or size of the balance sheet compared
    with Solvency I at a European level
  2. Technical provisions tend to decrease due to the
    implicit prudence in the current regime thereby
    increasing available capital
  3. 98 of firms would not find it necessary to raise
    additional capital to meet the MCR
  4. QIS3 solvency ratio is lower than the current
    solvency ratio for most participating firms
  5. The proposed regime does not require extra
    capital in the European insurance market as a
    whole.

14
Assessment of the SCR
  1. CEIOPS believes that there is general
    satisfaction with the proposed correlation
    matrix. General consensus for a geographic
    diversification benefit to be included.
  2. Diversification effects through the correlation
    matrix were 20 on average.
  3. Many firms want the expected profit/loss element
    returned to the calculation.
  4. Subjectivity of the cat risk scenarios is
    inappropriate and needs to be reviewed
  5. Non-life underwriting risk results were excessive
    compared to internal model results.
  6. Operational Risk
  7. Opposition to the 100 correlation with the other
    risk factors
  8. No incentive to develop adequate risk management
    systems
  9. Suggestion that administrative costs could be a
    more appropriate measure than premiums

15
Composition of Non-Life SCR
Source CEIOPS Report on its Third Quantitative
Impact Study for Solvency II
16
SCR Comparison with Internal Models
  1. Internal models generally produce a higher charge
    for credit risk than the SCR module
  2. For non-life insurance, internal models produce
    significantly lower total SCRs than the standard
    formula, with an average reduction of 25
  3. No clear pattern as to whether internal models
    produce a lower or higher operational risk charge
    than the standard formula

17
Assessment of the MCR
Calibration target is 80-90 value at risk over a
one-year time horizon Non-life firms results
under both alternatives were broadly consistent
with the calibration target. For alternative 1,
the MCR nowhere exceeded 70 of the SCR
Source CEIOPS Report on its Third Quantitative
Impact Study for Solvency II
18
Assessment of the MCR
Problematic interaction with the SCR for life and
composite firms due to the loss absorbing
capacity of future discretionary benefits
methodology
Source CEIOPS Report on its Third Quantitative
Impact Study for Solvency II
19
Own Funds
95 of capital was designated as Tier 1 with the
average proportion over the industry being
94 For those firms with Tier 2 capital, the
average proportion was less than 25 in almost
all countries For those firms with Tier 3
capital, the average proportion was less than 20
for life firms and less than 33 for non-life
firms in almost every country
20
Areas for Further Work
  • Technical Provisions
  • More guidance on calculation of the risk margin
  • Possible simplifications or proxies to make up
    for a lack of data
  • SCR
  • Segmentation
  • Calibration of non-life underwriting risk
  • Granularity of equity risk shocks
  • Treatment of unrated entities
  • Possible simplification of the concentration risk
    component and impact on firms in smaller
    countries with fewer market options
  • Clarification of replacement cost in the
    counterparty default risk module and treatment of
    intragroup reinsurance
  • Inclusion of expected profits
  • Exclusion of free assets in the market risk
    module

21
Areas for Further Work
  • MCR
  • Testing of additional approaches to enable a
    choice between the MCR being a stand alone
    capital requirement and having it as a percentage
    of the SCR
  • Value of Assets
  • Clarification on valuation of participations
    (look-through vs market value)
  • Own Funds
  • Guidance on classification of eligible elements
  • Groups
  • Non-comparable data has been supplied and
    clarification is therefore needed in order to
    draw conclusions on these issues
  • Scope of consolidation
  • Group coverage
  • Internal model results
  • Consideration of the rules to which cross sector
    and non-EEA entities are subject as well as the
    extent to which surplus assets are transferable

22
Conclusions
Industry needs to provide detailed input on key
issues to assist the Council of Ministers and the
European Parliament better understand how the
Solvency II regime will work in
practice. Industry needs to support CEIOPS work
on the development of QIS4 and further
quantitative surveys to assist in developing the
implementing measures of Solvency II. Actuaries
need to stay abreast of the topics and add their
expertise to the debate. In addition, we need to
acquire the necessary skills to assist our
management in meeting the demands that Solvency
II will thrust upon on our firms.
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