Preparing for ORSA - Some practical issues

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1 2013 Seminar for the Appointed Actuary Colloque pour l actuaire désigné 2013 Session 13 (P&C): Preparing for ORSA - Some practical issues Speaker: Jean-Marc Léveillé Vice-president Corporate Actuarial, Research and Modeling Desjardins General Insurance Group

2 Table Context of the company Some elements of the ORSA process Corporate actuarial function Operational risk / Reputational risk / Strategic risk ORSA risk capital Documentation The ORSA report Ending comments

3 CONTEXT OF THE COMPANY

4 Context of the company Concept of Proportionality An insurer will determine the most appropriate approach with which to perform the assessment given the nature, scale and complexity of its own risks, risk taking activities and operating environment. OSFI draft guideline : Own Risk and Solvency Assessment (E-19) Firm specific, tailored to structure Proportional to risk profile (nature, exposure, complexity) Each insurer s ORSA process will be unique

5 SUBSIDIARY NETWORK CO-OPERATIVE NETWORK Context of the company Desjardins Group - Legal Structure Members 397 Caisses Caisse centrale Desjardins Fonds de sécurité Desjardins Capital Desjardins Desjardins Financial Services Firm FÉDÉRATION DES CAISSES DESJARDINS DU QUÉBEC Développement international Desjardins Fondation Desjardins Société historique Alphonse-Desjardins Desjardins Financial Security DESJARDINS GENERAL INSURANCE GROUP Desjardins Securities Disnat Desjardins Asset Management Desjardins Venture Capital

6 Context of the company Market share in Canada Personal Lines (2012) Rank Company GWP (M$) Market share 1 Intact 4 959,8 18,0% 2 TD Meloche 2 698,8 9,8% 3 Aviva 2 097,0 7,6% 4 DGAG 1 877,8 6,8% 5 RSA 1 831,6 6,6% 6 Wawanesa 1 790,5 6,5% 7 State Farm 1 730,0 6,3% 8 Co-operators 1 602,0 5,8% 9 Economical 1 130,1 4,1% 10 Allstate 1 053,4 3,8% Total ,6

7 Context of the company Market share in Canada All lines of business (2012) Rank Company GWP (M$) Market share 1 Intact 7 202,0 16,3% 2 Aviva 3 550,3 8,0% 3 RSA 2 842,6 6,4% 4 TD Meloche 2 707,2 6,1% 5 Co-operators 2 345,7 5,3% 6 Wawanesa 2 161,4 4,9% 7 DGAG 1 980,2 4,5% 8 State Farm 1 847,7 4,2% 9 Economical 1 811,9 4,1% 10 Lloyd's 1 658,3 3,7% Total ,2

8 SOME ELEMENTS OF THE ORSA PROCESS THERE IS NO FIXED RECIPE FOR ORSA

9 Some elements of the ORSA process ORSA Document Minimum Content 1 Executive Summary 2 Background of the ORSA 3 Statement of Risk Appetite 4 Comprehensive Identification and Assessment of Risks 5 Relating Risk to Capital 6 Stress and Scenario Testing 7 Integrated Planning 8 Integration of the ORSA into Risk Management 9 Review, Approval, Challenges and Next Steps 10 Key Metrics Report

10 Some elements of the ORSA process Statement of Risk Appetite Fundamental first step toward proper risk management Alignment from the Board Need to have proper link between strategy and statement Internal and External Take time to establish the main statement Bring more stress testing to different probability levels to define among other things risk appetite and risk tolerance Risk metrics used in risk appetite and tolerance statements - surveys

11 Some elements of the ORSA process Risk Appetite WHAT HOW MUCH HOW 3 types of statements : Nature of risks for which the company is willing to be exposed to Amount of capital we are willing to put at risk Volatility we are ready to assume Allocation between types of risks Allocation between business units Optimization of risk / return relationship Quantitative Define a target number or percentage for risks easily measurable High level Qualitative Useful for difficult to measure elements Zero Tolerance Specify risks for which the company does not want to be exposed Indicators : Aligned with main statement

12 Some elements of the ORSA process Examples of statements Quantitative Qualitative Zero Tolerance Profit variation below xm$, once every n years MCT ratio variation below x%, once every n years Profit volatility below x% per year «Our philosophy is based on a long term vision of {n} years.» «We prefer to take credit risk over equity and property risks, due to the lower risk profile, our credit risk analysis capability and the structural investment advantages conferred to insurers with long-dated, illiquid liabilities. We seek to hold an efficient level of liquidity, matching the liquidity characteristics of our assets and liabilities as far as possible.» Avoid events that could cause significant damage to the company s reputation No new development in market exposed to fraud Avoid foreign currency risk

13 Some elements of the ORSA process Statement of Risk Appetite Metric specific to each organisation Ex.: Underwriting profit , Industry combined ratio DGIG combined ratio 80.0

14 Some elements of the ORSA process Relating Risk to Capital Different types of risk will be determined through: Standard formula (MCT) Economic capital Allocation based calculations from Mouvement (i.e. pension risk) Stress testing More work on economic capital to be performed over time Insurance risk Market risk Start by identifying the proper tool and the right resources

15 CORPORATE ACTUARIAL FUNCTION

16 Corporate actuarial function More tasks, more complexity Reinsurance Stochastic Reserving Business Contingency Plan Market Trend Analysis Stress Testing Program Reserving Financial Reporting Statement of Risk Asset-Liability Matching Economic Capital Risk Portfolio ORSA Premium Volume and Loss Ratio Monitoring DCAT Benchmarking Budget / Financial Planning Internal Capital Target Catastrophe Modeling

17 Corporate actuarial function Revised structure Insurance Risk Management Loss Ratio Management Reserving : Financial reporting Reserve variability AB/BI support Asset-Liability matching Experience report production Premium and claim experience monitoring Industry benchmark International Financial Reporting Standards (IFRS) Enterprise Risk Management Capital Allocation Budget / Financial Plan Dynamic Capital Adequacy Testing (DCAT) Stress testing Enterprise Risk Management ORSA (Own Risk Solvency Assessment) Economic capital Internal Capital Target Reinsurance

18 Corporate actuarial function Resources with expertise Expect possible increase in demand for actuaries as it has been the case in Europe during last few years due to Solvency II Need for actuaries capable of doing capital modeling and all the controls, documentation and validation around the whole exercise

19 Corporate actuarial function Collaborating Units Risk management team Mouvement Desjardins Risk Management Committee Legal Forward-looking Finance Internal auditor Risk management team DGIG Business units management Corporate Actuarial External resources (actuarial services and software) Compliance officer Actuarial modeling and research

20 Corporate actuarial function Roles and Responsibilities Risk Management Actuarial Function Risk Management Policy Risk Identification and Assessment Risk Profiling and Risk Tolerance ORSA Documentation Engagement with Supervisors Capital Planning DCAT Stress Testing Economic Capital Internal Modeling Stochastic Reserving Reinsurance

21 OPERATIONAL RISK REPUTATIONAL RISK STRATEGIC RISK

22 Operational risk / Reputational risk / Strategic risk Operational risk measurement Discussion paper on OSFI s proposed changes to the Regulatory Capital Framework for Federally Regulated Property and Casualty Insurers (May 2013) Proposed definition of operational risk: Operational risk is the risk of loss resulting from inadequate or failed internal processes, people and systems or from external events. The definition includes legal risk but excludes strategic and reputation risks. Proposed formula for operational risk charge Capital required and premium volume

23 Operational risk / Reputational risk / Strategic risk Operational risk formula Will see how the formula evolves over time Should not impact adversely in situations where not granted Operational risks: Risk identification with business units Top 3 risks based on meeting with unit managers No attempt to quantify through MCT reputational and strategic risk

24 Operational risk / Reputational risk / Strategic risk Risk to the company s reputation Some examples Calgary flooding Earthquake Launch of new product - UBIP

25 Operational risk / Reputational risk / Strategic risk Ability of management to execute its intended strategies Market cycle Distribution chain Talent Regulation Technology Culture Sustainability

26 Operational risk / Reputational risk / Strategic risk Importance of taking into account these types of risk Since some risks are not (easily) quantifiable, not all risks can be included in a corporate measuring framework. Use of qualitative approach Better mitigated through thoughtful planning based on stress testing results and risk management oversight. Risk workshop designed to get a view on a longer-term time horizon Debate over strategic and emerging risks during annual board strategy day with quarterly update Internal controls and contingency plans Reverse stress testing Prudent to add to the value determined by means of internal model, an additional amount based upon judgment to cover those risks which though non-quantifiable, can lead to significant financial costs for the insurer. (Note on the use of Internal Models for Risk and Capital Management Purposes by Insurers November 2010 International Actuarial Association) At a minimum, the ORSA should explicitly address insurance, market, credit and operational risks OSFI E-19 Draft guideline

27 ORSA RISK CAPITAL

28 ORSA Risk Capital How to use this kind of information ORSA should influence capital allocation decisions Use of economic or regulatory capital Financial and strategic dimension

29 ORSA Risk Capital EC measurement along with strategic dimension Market indicators Indicator 1 Indicator 2 Indicator 3 Indicator 4 Financial dimension Indicator 1 Indicator 2 Indicator 3 Indicator Observations: - adfadfadf - adfadfafafafadf - Adfadfafafafadfas dfafdadfadfsadfas dfads - Adfadfafadfadsf - Adfadfasdfasfdas - Afdadfasfasfasdf Scenarios: Scenario_1 ddsfafasdfafasdfad sfadsfafdadfs Scenario_2 qerqerszzvzcvabaf aadadfadfafafafadf Economic capital 1 B$ 500 M$ 100 M$ 10 M$ RAROC >10% 0 à 10% 0 à -10% <-10%

30 Strategic dimension ORSA Risk Capital Strategic and financial dimension HIGH B$ 5,0 3,6 1,8 WEAK HIGH Strategic dimension Economic capital 1 B$ 500 M$ 100 M$ 10 M$ RAROC >10% 0 à 10% 0 à -10% <-10%

31 ORSA Risk Capital Comments An effective ORSA process will be more about process than results Information that should help to trigger discussions Integration of the ORSA into Risk Management (use test)

32 DOCUMENTATION

33 Documentation Recycling Need to justify and provide evidence for all assumptions and methodology Need to document all of the ERM framework Significant amount of documentation will be required to prepare any ORSA??? Current ERM framework Capital management policy Stress-testing program DCAT Other relevant policies (ORSA, investment, reinsurance, others) Challenging but Canada already has the key ingredients of ORSA process Recycling existing processes (A4, E19, DCAT, etc.) to be part of the ORSA process

34 THE ORSA REPORT

35 The ORSA report Regulatory needs DCAT to respond to regulatory needs regarding solvency ORSA report for risk management purposes ORSA is a process and not a reporting requirement Go further than strict regulatory needs The greater danger for organizations which are still shaping their risk management programs is to build their risk management systems around the regulatory review

36 ENDING COMMENTS

37 Ending comment #1 Complexity of the modelling should not be underestimated

38 Ending comment #2 ORSA will not be perfect at first ORSA v1.0 based on existing data, tools and information systems Several iterations Progressive approach

39 Ending comment #3 Everyone will be better served by parsimonious minimum requirement coupled with the freedom to evolve. This will allow companies to differentiate on risk management talent and be rewarded for competitive advantages. The ORSA minimizes risk, but it still enables intelligent risk-taking and allows mistakes There will be no ORSA score at the culmination of the ORSA exercise

40 Ending comment #4 Biggest challenge: Embedding a risk management system within a firm requires considerable investment outside the quantification / actuarial areas, there remains a gap between internal modeling and the ground-level risk quantification/decision making systems

41 Ending comment #5 An effective ORSA will be more qualitative than quantitative While it will be natural for actuaries to think of the ORSA as essentially just another application for their financial modes, that is not the intent Models cannot replace leadership!

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