Solvency II New Framework for Risk Management Organisation Dr. Maciej Sterzynski (Triglav Insurance, Ltd.) Matija Bitenc (Triglav Insurance, Ltd.) 1
AGENDA ð Understanding Solvency II ð Setting up Integrated Risk Management Framework ð Leveraging on Economic Capital ð Becoming a a leader (conclusion) 2
SOLVENCY II TIMELINE 2006 2007 2008 2009 2010 2011 Directive developed by the EC Directive adoption? (Council & Parliament) Implementation? (Member states) CEIOPS work on technical advice necessary for implementing measures / supervisory convergence / preparation for implementation / training & development Commission preparatory work on possible implementing measures Adoption of Implementing measures July 2007 Solvency II Directive published QIS 1 QIS 2 QIS 3 QIS 4?? 3
SOLVENCY II ARCHITECTURE Solvency II Three Pillars Construction reflects Integrated Risk Management Framework Quantitative Requirements Qualitative Requirements Disclosure & Reporting Market consistent valuation MCR & SCR SCR: Total balance sheet app., VaR 99.5% 1-year European Standard Formula for SCR MCR-relation to SCR to set up Internal models for SCR Prudent Person Rule Credit Risk mitigation Credit for diversification New regime places much emphasis on good governance Risk-management: key change from old regime Own Risk & Solvency Ass. Supervisory Review Process More developed than in BaselI New requirements for disclosure to harness market discipline in support of achieving regulatory objectives New requirements for transparency 4
INTEGRATED RISK MANAGEMENT FRAMEWORK Model Cartography Vision & Strategy Data Definitions Model Risk Policies Testing Approach Selection Usage Policies Risk Appetite Model Risk Management Risk Management Model (Q) Strategy & Risk Policies Culture & Awareness Validation Governance Structure Organisational Structure Corporate Governance Headcounts & Profiles Documentation 5
VISION STRATEGY RISK POLICY (ROADMAP) Defining vision for a company to be used as a foundation for a global strategy Setting up global strategy which encompasses approach to risk management framework Deciding about RM strategy compliant with global vision & strategy Producing policy cartography covering entire integrated risk management framework Defining policy development process through Setting up RM Service as oversight and coordination body Assigning of policy owners (BU) Defining gapless & transparent decision-making process where the board endorses the policies 6
EXAMPLE OF POLICIES FRAMEWORK 7
RM GOVERNANCE SUPERVISORY BOARD ALM COMMITTEE AUDIT COMMITTEE COMMITTEE 1 SUPPORT BOARD OF DIRECTORS AUDIT EXTERNAL AUDITORS COMMITTEE 2 MANAGEMENT COMMITTEE 3 RISK MANAGEMENT COMMITTEE INTERNAL AUDIT DEPARTMENT CHIEF RISK OFFICER (RM DEPARMENT) INTERNAL CONTROL SUPPORT & CONTROL Risk Management Co-ordination BUSINESS UNIT BUSINESS MANAGEMENT UNIT BUSINESS MANAGEMENT UNIT MANAGEMENT Risk officer in Each unit 8
GENERIC RM ORGANISATION ALM COMMITTEE MANAGEMENT ORM COMMITTEE Board Member CRO RISK MANAGEMENT COMMITTEE Risk Officers From each Dep Heads of each Unit Global level CHIEF RISK OFFICER (Director of Risk Management Department) Global level Risk Management Co-ordination Operational Risk Unit (ORM Team) Financial Risks Management Team ALM Team Underwriting Team Credit Risk Unit Market Risk Unit Life Non-Life Health Internal Control Internal Audit 9
ECONOMIC CAPITAL & IRM Best Practice of Competitors, Regulatory requirements INTELLIGNENT RISK MANAGEMENT QUALITATIVE PART Strategy & Policy, Governance Structure Internal Controls QUANTITATIVE PART ECONOMIC CAPITAL APPROACH RISK IDENTIFICATION RISK DISTRIBUTIONS (Assessment) RISK AGGREGATION ECONOMIC CAPITAL POSSIBILITY FOR INTERNAL MODELS RAROC Generic RM Framework (Solvency II Compliance) 10
SOLVENCY II - INTERNAL MODEL CONDITIONS INTERNAL MODEL (SCR CALCULATION) DOCUMENTATION + + + + METHODS PROCESSES CONTROLS DATA IT SYSTEMS Sound actuarial techniques Identification Accurate Current credible information Realistic a assumptions Quantification Monitoring Measuring Complete Appropriate VALIDATION Internal model central role in risk management & decision making processes, capital allocation and system of governance functions SUPERVISOR S APPROVAL off INTERNAL MODEL 11
BEST PRACTICE MODEL RM FRAMEWORK MODEL RISK MANAGEMENT GOVERNANCE MODEL CARTOGRAPHY mapping methodology, consistency, DATA policies, premiums & claims, how are the data processed, (data quality and back-office quality), coherence across the processes MODEL methodology assumptions and modeling techniques, transparency and performance For each model and sub-model TESTING model stability, stress testing method USAGE POLICIES policies of model use 12
ECONOMIC CAPITAL CORE OF INTERNAL MODELS Frequency of occurrence EXPECTED LOSS (TECHNICAL PROVISIONS) UNEXPECTED LOSS (ECONOMIC CAPITAL) ECONOMIC CAPITAL (Unexpected Loss) = SCR P = 0,05 (Risk appetite) Mean (Expected Loss) = Risk Provisions Value X (VaR) Loss Distribution 13
CALCULATION OF ECONOMIC CAPITAL RISK 1. Identify all sources of risk Asset Risk Operational Risk Credit Risk Market Risk Insurance Risk ALM Risk Business Risk Event Risk 2. Characterize the distributions 3. Combine the distributions CORRELATIONS, DEPENDENCIES EL Solvency Standard 4. Measure Required capital 5. Calculate contributions of individual business lines and individual risks Economic Capital 14
RISK - RETURN FRAMEWORK Part 1. ECONOMIC CAPITAL (Risk Framework) Risk identification Measurement & Distributions Aggregation EC measurement (Responsibility) RISK MANAGEMENT & RISK OFFICERS EC & RAROC FRAMEWORK Part 2. COST & RETURN MEASUREMENT (Return Framework) Cost measurement framework (business units, product lines) Return measurement framework (business units, product lines) (Responsibility) CONTROLING & BUSINESS UNITS 15
VALIDATION ð Validation covers all internal models ð Validation comprises organisation & process VT provides with validation report VC pre-approves validation report and submits for endorsement Homologation file sent to local supervisor Validation Team (VT) Validation Committee Board AZN ð Validation to be recognized by local supervisors needs to provide with a clear and consistent validation methodology 1 2 3 4 t Strategy Phase Methodology and Modeling Validation Policies Validation Operational Validation 16
CONCLUSION ð Market competitive advantage ð Improved cost efficiency by engaging resources and capital only once ð Optimization of on-going business through more adequate capital allocation ð Investments made now for RM re-engineering will provide a strong return in medium-term perspective ð Regulatory requirements driven by Solvency II Directive 17
Back-up slides 18
ORM Governance structure (example) Board of Directors Operational Risk Sub-Committee Members: 1 OR manager in cooperation with every risk officer Support + Decision Making Process CHIEF RISK OFFICER (RM DEPARMENT) Risk Management Co-ordination Coordination Approach & Perimeter Data warehouse Risk reporting Key Risk Indicator Scorecard Risk & Control Self Assessment Review Operational Risk Unit (Working Group) DECENTRALIZED RISK MANAGEMENT IT RISK MANAGEMENT Support & Cooperation IT DEPARTMENT IT Support in Software development BUSINESS CONTINUITY PROGRAM Internal Audit Constant cooperation Regular reporting regarding: Risk identification Risk assessment Risk evaluation Risk management EACH DEP EACH DEP EACH DEP EACH DEP EACH DEP EACH DEP EACH DEP EACH DEP EACH DEP EACH DEP Legal IT Finance HR Business Lines Marketing Etc Internal Control EACH DEP EACH DEP 19
IRM ECONOMIC CAPITAL MODEL (example) LOW EC CONSUMPTION 0% 5% CAPITAL DEPLOYMENT 10% Risk Capital Budgeting General Liability SCA Term Life Economic Capital 15% 20% 25% 30% Homeowners Credit & Surety 35% 40% HIGH EC CONSUMPTION 45% 25% 50% 20% 15% Investments 10% 5% DESINVESTMENTS 0% -5% HIGH RAROC RAROC (Risk Adjusted Return on Capital) LOW RAROC RESULT: 3. INVEST IN NEW LINES WITH RAROC OF AT LEAST 9%; 4. COMPARE AVAILABLE CAPITAL TO ECONOMIC CAPITAL if Available Capital > Economic Capital distribute capital to owners (dividends) and increase ROE or new investments 20