Standard Formula - Life

Transcription

1 Standard Formula - Life 29 November 2011

2 Standard Formula - Life Technical Provisions Contract Boundaries Matching Premium Counter Cyclical Premium Risk Margin Own Funds - EPIFP SCR Life Underwriting Risk Market Risk Counterparty Default Risk

3 General Disclaimer All comments are based on proposed changes to Level 2 and Level 3 since QIS5 However these could be subject to change

4 Technical Provisions Contract Boundaries Several changes made to definition of contract boundary since QIS5 unlimited ability to amend premiums or benefits from QIS5 replaced by unilateral right that premium fully reflects the risk If contract has no future insurance event nor a financial guarantee then all future premiums (and related obligations) are excluded from the contract If contract can be unbundled between insurance and non-insurance parts then it should be

5 Technical Provisions Contract Boundaries Not clear how much impact these will have in practice Real clarity only likely when level 3 technical standards are developed (with extensive examples) However, some views from the Commission If UL savings, then effectively PUPped at valuation date If material death benefit, next review date is contract boundary BUT, not clear what the situation is if management charges are flexible

6 Technical Provisions Matching Premium Part of risk-free interest rate subject to conditions on obligations and assets Assigned portfolio of assets to match best estimate liabilities, not subject to change unless cash flows materially altered Assets are ring-fenced and managed separately Cash flows of assets replicate liability cash flows with no material mismatch No future premiums receivable

7 Technical Provisions Matching Premium Liabilities only subject to longevity, expense and revision risk within underwriting module; no policyholder options Cash flows of assets are fixed or only variable with inflation if liabilities inflation linked Asset cash flows cannot be changed by issuer Assets must be credit quality step 3 (i.e. BBB) or above Insurance undertaking declares it is applying the matching portfolio and is meeting above requirements

8 Technical Provisions Matching Premium Once Matching Premium has been applied undertaking cannot choose to revert to risk free without it If company can no longer meet the conditions for Matching Premium it must correct situation within two months or be prohibited from use of any Matching Premium for two years

9 Technical Provisions Matching Premium Calculation of Matching Premium is the difference between The yield (single discount rate) on the portfolio of assets allowing for expected defaults, and The single discount rate from the liabilities that is equivalent to the weighted basic risk-free term structure Matching Premium applies at all times, not just in stressed market conditions Matching Premium can be positive or negative

10 Technical Provisions Counter-cyclical Premium To be applied in times of stress where Matching Premium does not apply Still much debate on when it should apply and how it will be calculated Likely to be based on a representative portfolio of assets rather than actual assets of individual undertakings Stressed scenario determined by EIOPA when material part of spread is due to illiquidity and likely that undertakings will sell assets if no Counter-cyclical Premium applies 100% SCR charge will apply but will be diversified

11 Technical Provisions Risk Margin No fundamental change to concept Project forward SCR at each future year Apply Cost of Capital at 6% Discount back at risk free rate For this purpose SCR includes underwriting risk, credit risk, operational risk, and where it is material, the residual market risk other than interest rate risk

12 Own Funds Expected Profits in Future Premiums EPIFP is not to be separately classified as an Own Funds item and so will be part of Tier 1 capital However EPIFP must be calculated and subject to public disclosure under Pillar 3 There will be a qualitative assessment of that calculation as part of liquidity risk management under Pillar 2 Calculation similar to QIS5 i.e. difference between two best estimate liability calculations, the second with no future premiums Calculated separately for same homogeneous risk groups as for technical provisions. Offsetting allowable within these risk groups, but not between these risk groups

13 Standard Formula Life SCR Life Underwriting Module Very few changes proposed to QIS5 calibration Some changes to mass lapse Retail mass lapse increased form 30% to 40% surrender replaced by discontinuance positive surrender strain replaced by positively sensitive i.e. increase in best estimate liability

14 Standard Formula Life SCR Life Underwriting Module - Aggregation Mortality Longevity Disability Lapse Expenses Revision CAT Mortality 1 Longevity Disability Lapse Expenses Revision CAT

15 Standard Formula Life SCR Life Underwriting Module - Risk by Risk Longevity: 20% decrease in mortality rates for all lives, and all terms Mortality: 15% increase in mortality rates for all lives, and all terms Disability/Morbidity: 35% increase in year 1 incidence rates 25% increase in subsequent years incidence rates 20% reduction in recovery rates for all years Expense: Increase of expenses by 10% Increase in expense inflation of additional 1%

16 Standard Formula Life SCR Life Underwriting Module - Risk by Risk Catastrophe: Overnight shock Pandemic 1.5 per mille (=0.15%) die Revision: Risk of change of revision risk Increase of 3% in the amount paid for annuities exposed to revision risk Lapse: Worst of three scenarios 50% lapse up 50% lapse down Mass lapse: 40% retail / 70% wholesale

17 Standard Formula Life SCR Life Underwriting Module - Simplifications Simplifications are available for Mortality Longevity Disability/Morbidity Expense Catastrophe Lapse

18 Standard Formula Life SCR Market Risk Module Spread Risk Bonds Covered Products Equity Risk Dampener Interest Rate Risk Concentration Risk

19 Standard Formula Life SCR Spread Risk Bonds QIS5 had a linear function with duration based on credit quality step Long Term Guarantees Working Party expressed concern that this may over state risk for long durations and incentivise companies to hold shorter duration assets than appropriate for liabilities Proposal that factor that is used to multiply by duration reduces by duration (shortest durations same as QIS5)

20 Standard Formula Life SCR Spread Risk Structured Products QIS5 required the higher of two shocks To the product directly To the underlying assets In QIS5 the latter applied to only 1.4% of undertakings and the proposal is to drop this New proposed factors are higher and reach maximums at shorter durations New factors apply to repackaged loans rather than structured products with even higher factors for resecuritization products.

21 Standard Formula Life SCR Equity Risk Dampener Proposal is still to have base shock of 39% with a dampener of +/- 10% depending on level of markets. Formula underlying QIS5 dampener tended to result in either 10% or -10%, rather than somewhere in between. Revised formula devised that spends more time in mid range

22 Standard Formula Life SCR Interest Rate Risk Work by Long Term Guarantees Working Party has led to lower proposed shocks for longer durations to both upward and downward shocks New proposal is for longest duration shock to be up or down by 20%. QIS5 had an up shock of 25% and a down shock of 30%

23 Standard Formula Life SCR Concentration Risk Further work done on shocks for unrated entities that have an SCR (or equivalent) solvency ratio Has led to revised factors some higher, some lower Similar work done on Counterparty Default Risk has led to some lower factors (and some unchanged) For both risks, factors for rated entities should be used in first instance

24 Standard Formula Life Questions?