Irish Industry Submissions for QIS5. Agenda Background Participation Valuation Technical Provisions...
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Transcript of Irish Industry Submissions for QIS5. Agenda Background Participation Valuation Technical Provisions...
Irish Industry Submissions for QIS5
Agenda
• Background
• Participation
• Valuation
• Technical Provisions
• Own Funds
• SCR
• MCR
• Internal Models
• Overall Financial Impact
• Next Steps
Background
Recap of Solvency II – Three-pillar approach
New focus for supervisorLevel of harmonisation
Group supervision
More pressure from capital markets, investors and
shareholders
Market-consistent valuation of assets and liabilities
Economic CapitalValidation of internal
models
Quantitative capital requirements
Technical provisionsMinimum capital requirement
(MCR)Solvency Capital
Requirement (SCR)
Qualitative supervisory review process
Corporate GovernancePrinciples for internal control
and risk managementORSACapital add-ons
Disclosures
Enhance market discipline through public disclosures
Annual FCR and Solvency reportsProvide additional (non-public
information to the supervisors
Pillar 1: Pillar 2: Pillar 3:
Recap of Solvency II – Balance Sheet
Technical provisions
Risk margin
Best estimate
Minimum capital requirement
Solvency capital requirement
Market - consistent valuation for hedgeable risks
Assets covering technical provisions
… for non - hedgeable risks
Surplus
Own funds
Assets Liabilities
Assets covering technical provisions and SCR
Mortality
CAT
BSCRAdj
Health
SLT Health
CAT Non-SLT Health
Default Life
Mortality
Longevity
DisabilityMorbidity
Lapse
Expenses
Revision
Non-life
Premium Reserve
Lapse
Market
SCR
Op
Intang
= included in the adjustment for the loss-absorbing capacity of technical provisions under the modular approach
CAT
Illiquidity
Interestrate
Equity
Property
Spread
Currency
Con-centration
Premium Reserve
Lapse
Longevity
DisabilityMorbidity
Lapse
Expenses
Revision
Quantitative Impact StudiesThe Story so far...• QIS1 - autumn 2005 - focused on testing the level of prudence in
technical provisions under several hypotheses
• QIS2 - summer 2006 - covered methodology of the technical provisions, SCR and MCR
• QIS3 - summer 2007 - testing of the calibration of the parameters
• QIS4 - summer 2008 - all areas of the proposed regime:
– balance sheet impact
– own funds
– the design and calibration of the standard formula.
– impact on groups and
– the comparison between internal model and standard formula results
Quantitative Impact Studies...and so to QIS5
• 5th July, 2010 the European Commission wrote to CEIOPS to ask them to run QIS5
• Conducted between July and November 2010, based on data as at 31st December 2009
• Most comprehensive QIS to date
IntroductionQIS 5 Objectives• To provide another test of the system being developed for Solvency II
• To achieve a high level of participation from solo undertakings (60%) and groups (75%), with a particular emphasis that more small undertakings participate than had been the case in previous studies
• The main issues to be covered were:
– Calibration of Standard Formula
– Groups Calculations
– Internal Models
– Test Complexity
• To increase the level of preparedness of both industry and supervisors
• QIS5 Results will be used to calibrate the Level 2 Implementing Measures
• Results will also be used to assess the needs and contents of the Level 3 guidance relating to Pillar 1 requirements
IntroductionConsiderations• This presentation is based on the results and feedback received from Irish
firms who participated in QIS5
• Views expressed in this report are those of the individual companies and not the Central Bank of Ireland
• This presentation contains only a snapshot of the large number of comments received
• The feed-back provided by the Central Bank of Ireland to EIOPA reflected the majority of the companies’ detailed submissions on almost every topic
• QIS5 was only a test at a point in time and did not purport to represent or pre-judge final calibrations
• This presentation does not necessarily indicate the impact that Solvency II will have on the Irish industry when Solvency II is implemented on 1st January, 2013
Participation
Participation
• 220 Submissions to Central Bank of Ireland
• 81% of entities that will be subject to Solvency II
• 2,520 submissions Europe wide
• 68% of entities that will be subject to Solvency II
Participation
The Central Bank of Ireland would like to
express its gratitude to all companies who
participated in this exercise
Valuation
Valuation of Assets and Other Liabilities|Comments
• International Accounting Standards
• More guidance on deferred taxes
Technical Provisions
Technical Provisions
• In general there was a reduction in the level of technical provisions from Solvency I to QIS5. This arose due to:
– Best estimate against possibly prudent assumptions
– Discounting for non-life business
– Removal of surrender value floor for Life Business (i.e. can hold negative provisions)
• Offsetting this to some extent was:
– Inclusion of Risk Margin
– Different cash-flows included in provisions due to contract boundary used in QIS5
– Discounting using risk-free rates for life business.
Technical Provisions Ratio of QIS5 Technical Provisions to Solvency I
Minimum25th
Percentile
Median75th
Percentile
Maximum
Life -622.4% 86.5% 95.4% 99.1% 345.9%
Non-life -2.1% 79.5% 93.4% 99.7% 156.7%
Technical ProvisionsRisk Margin• Some companies complained that the full calculation was too
complex so that simplifications would always be needed
• Most companies reported that they used one of the simplifications allowed
• Unavoidable market risk was too difficult to define
25th Percentile Median 75th
PercentileEEA
Mean
Life 0.4% 1.4% 4.9% 2.7%
Non-life 4.1% 6.8% 9.7% 6.8%
Technical ProvisionsContract Boundary• Many unit linked contracts were determined to have a zero
boundary because they were deemed to have unlimited ability to vary contract terms
• There was inconsistency in the technical specification between single premium and regular premium contracts in this regard
• Many thought that the definition of contract boundaries was unclear
• The overwhelming view was that the QIS5 definition was out of line with IFRS/IASB, uneconomic, inconsistent with the risk profile of the contract and unrealistic
• Some non-life comments looked for clarification on “bound but not incepted” policies
Technical ProvisionsSegmentation
• Several companies commented that the segmentation was too broad and needed to be more granular as too much business was ending up in the miscellaneous category for non-life
• Against this many companies complained that the split of motor business between property and liability did not match practice in the Irish market, which is to have one contract covering both risks
• Many life companies thought that the second level of segmentation was too detailed and led to unnecessary complication
Technical ProvisionsFurther Comments from EIOPA report
• Illiquidity Premium
– Split between buckets
– 1% reduction in technical provisions
• Transitional measures
• Reinsurance recoverables
– Split by LOB not in line with treaties
– Allowance for expected defaults difficult
Own Funds
Own FundsTiering
• Tier 1
– EEA Solo 91.9%
– EEA Group 81.5%
Tier 1 Tier 2 Tier 3
Ireland 95.7% 1.8% 2.5%
Own FundsExpected Profits in Future Premiums• The majority of comments received in relation to Own Funds were in
respect of Expected Profits In Future Premiums (EPIFP)
• In general there was support from companies for the concept of EPIFP and its inclusion as Tier 1 Capital, but not for its method of calculation
• Many companies complained that models were unable to do the calculations without significant modification
• The calculation should be unnecessary if EPIFP is to be treated as Tier 1
• The majority of companies reported a zero EPIFP. As a percentage of Own Funds, the highest figure for EPIFP was 90%, with a median of 12% for those companies reporting a non-zero value
• It should be noted that the size of EPIFP is directly linked to the definition of the Contract Boundary
Own FundsFurther Comments from EIOPA report
• Other paid in capital instruments
– Material amounts, but use varies
– Existing hybrids unlikely to meet new criteria
– Transitional provisions
• Adjustments to own funds
– Ring fenced funds
– Participations in financial and credit institutions
– Net deferred tax assets
• Ancillary own funds
Solvency Capital Requirement
SCR
• Most companies saw an increase in SCR over RMSM
• Increase was generally greater for non-life companies than life companies
Table: Required capital to net provisions25th
Percentile Median 75th Percentile
Life SI 0.6% 2.2% 6.8%
Life QIS5 1.5% 3.5% 21.4%
Non-Life SI 4.3% 9.9% 22.2%
Non-Life QIS5 28.4% 53.7% 115.6%
SCRComposition (All undertakings)
Mar
ket
Coun
terp
arty Life
Heal
th
Non-
life
Dive
rsifi
catio
n
Inta
ngib
les
BSCR
SCR
Op
Adj T
P/DT SC
R
0%
20%
40%
60%
80%
100%
120%
140%
32%
12%
27%
4%
49%22%
0%
102%
9% 10%
100%
Ireland
Mar
ket
Coun
terp
arty Life
Heal
th
Non-
life
Dive
rsifi
catio
n
Inta
ngib
les
BSCR
SCR
Op
Adj T
P/DT SC
R
0%
20%
40%
60%
80%
100%
120%
140%
160%
180%
200%
102%
12%28%
8%30% 32%
0%
148%
8%
57%
100%
EEA
BSCRComposition (Life undertakings)
Mar
ket
Coun
terp
arty Life
Heal
th
Non-
life
Dive
rsifi
catio
n
Inta
ngib
les
BSCR
0%
20%
40%
60%
80%
100%
120%
140%
49%
6%
64%
4% 3%24%
0%
102%
Ireland
Mar
ket
Coun
terp
arty Life
Heal
th
Non-
life
Dive
rsifi
catio
n
Inta
ngib
les
BSCR
0%
20%
40%
60%
80%
100%
120%
67%
8%
24%
1% 0% 0% 0%
100%
EEA (Diversified)
BSCRComposition (Life undertakings)
25th Percentile Median 75th
Percentile Mean
Intangibles 0.0% 0.0% 0.0% 0.2%
Market 29.4% 49.9% 71.7% 47.6%
Default 2.0% 8.2% 19.9% 5.7%
Life Underwriting 30.1% 51.2% 73.1% 62.8%
Health Underwriting 0.0% 0.0% 1.7% 3.0%
Diversification (22.2%) (29.1%) (35.5%) (23.0%)
BSCRComposition (Non-life undertakings)
Mar
ket
Coun
terp
arty Life
Heal
th
Non-
life
Dive
rsifi
catio
n
Inta
ngib
les
BSCR
0%
20%
40%
60%
80%
100%
120%
140%
21%
16%2% 4%
79%
20%0%
101%
Ireland
Mar
ket
Coun
terp
arty Life
Heal
th
Non-
life
Dive
rsifi
catio
n
Inta
ngib
les
BSCR
0%
20%
40%
60%
80%
100%
120%
33%
7% 1% 7%
52%
0% 0%
100%
EEA (Diversified)
BSCRComposition (Non-life undertakings)
25th Percentile Median 75th
Percentile Mean
Intangibles 0.0% 0.0% 0.0% 0.0%
Market 4.5% 15.2% 29.7% 20.5%
Default 7.3% 17.3% 40.6% 16.1%
Health Underwriting 0.0% 0.0% 0.5% 3.5%
Non-Life Underwriting 51.9% 73.6% 89.9% 78.4%
Diversification (10.5%) (19.9%) (26.9%) (20.1%)
Market RiskComposition (All undertakings)
Inte
rest
Equi
ty
Prop
erty
Spre
ad
Curr
ency
Conc
entr
ation
Illiq
uidi
ty P
rem
ium
Dive
rsifi
catio
n
Mar
ket R
isk
0%
20%
40%
60%
80%
100%
120%
140%
160%
23%
24%7%
39%
27%7%
14%42%
100%
Ireland
Inte
rest
Equi
ty
Prop
erty
Spre
ad
Curr
ency
Conc
entr
ation
Illiq
uidi
ty P
rem
ium
Dive
rsifi
catio
n
Mar
ket R
isk
0%
20%
40%
60%
80%
100%
120%
140%
160%
28%
42%
12%
30%
10%6% 8%
36%
100%
EEA
Market RiskComposition (All undertakings)
25th Percentile Median 75th
PercentileMean
Interest 5.4% 25.4% 60.6% 23.3%
Equity 0.0% 0.0% 28.4% 24.4%
Property 0.0% 0.0% 0.0% 7.0%
Currency 0.0% 22.6% 54.4% 38.8%
Spread 0.0% 0.3% 16.8% 27.3%
Concentration 0.0% 0.0% 42.6% 6.9%
Illiquidity 0.0% 1.6% 6.0% 14.3%
Diversification (16.3%) (32.9%) (48.2%) (42.1%)
Market RiskComments
• Problems looking through to underlying assets for unit funds, especially when investing via unit trusts/UCITS
• No allowance for dynamic hedging overstated risk
• Further work required to assess basis risk (i.e. improve fund mapping)
• For unit linked business it was too complicated to do the full calculation for each market risk shock (e.g. spread risk)
Life Underwriting RiskComposition
Mor
talit
y
Long
evity
Disa
bilit
y
Laps
e
Expe
nses
Revi
sion
Cata
stro
phe
Dive
rsifi
catio
n
Life
Unde
rwriti
ng ..
.0%
20%
40%
60%
80%
100%
120%
140%
160%
48%
13%3%
36%
6% 0%
36% 43%
100%
Ireland
Mor
talit
y
Long
evity
Disa
bilit
y
Laps
e
Expe
nses
Revi
sion
CAT
Dive
rsifi
catio
n
Life
Unde
rwriti
ng ..
.0%
20%
40%
60%
80%
100%
120%
140%
160%
11%
36%
6%
49%
23%0% 11%
36%
100%
EEA
Life Underwriting RiskComposition
25th Percentile Median 75th
Percentile Mean
Mortality 1.5% 6.6% 19.1% 47.9%
Longevity 0.0% 0.0% 2.0% 13.5%
Disability 0.0% 0.0% 0.8% 3.0%
Lapse 24.0% 63.0% 82.8% 36.2%
Expenses 2.5% 12.6% 35.5% 6.3%
Catastrophe 0.4% 4.1% 30.9% 36.2%
Diversification (14.6%) (22.1%) (35.4%) (43.1%)
Life Underwriting RiskComments• The most commented on aspect was the longevity risk. All
companies who commented felt that this risk should be an improving mortality trend rather than a once off improvement
• Many companies commented that assessing the lapse risk at policy level was difficult and not intuitive: lapse risk should be done at product rather than policy level
• Some companies said that mass lapse rates were too high in general, while some specified that it was too high where policies had large surrender penalties
• For reinsurance contracts there was a difficulty in determining the policy level lapse risk, since there is only an indirect link with the ultimate policyholder
Non-Life Underwriting RiskComposition
Prem
ium
& R
eser
ve
CAT
Laps
e
Dive
rsifi
catio
n
Non-
life
Unde
rwriti
ng...
0%
20%
40%
60%
80%
100%
120%
140%
69%
52%
0%21%
100%
Ireland
Prem
ium
& R
eser
ve
CAT
Laps
e
Dive
rsifi
catio
n
Non-
life
Unde
rwriti
ng...
0%
20%
40%
60%
80%
100%
120%
140%
70%
50%
1%20%
100%
EEA
Non-Life Underwriting RiskComposition
25th Percentile Median 75th
Percentile Mean
Premium & Reserve 37.4% 63.0% 86.5% 69.3%
Catastrophe 30.2% 62.7% 81.2% 51.7%
Lapse 0.0% 0.0% 0.0% 0.3%
Diversification (11.5%) (21.2%) (24.9%) (21.2%)
Non-Life Underwriting RiskComments
• CAT Risk Method 1 too complex
• CAT Risk Method 2 overly penal
• Premium and Reserve risk over calibrated
• Non proportional reinsurance not well catered for
• Difficult to apply reinsurance programmes, particularly to CAT module
• Data requirements too onerous
• Lapse module generally ignored
Counterparty Default RiskComments• Nearly all comments related to the complexity of the calculation, in
particular to the calculation of the risk mitigating effect within the Loss given Default (LGD). Companies complained that this required them to recalculate the SCR for each counterparty with and without reinsurance, which is very onerous even with a low number of counterparties. Comments were made that the complexity of the calculations led to simplifications or approximations being used
• In addition, the complexity of the formula means that it was difficult to anticipate or sense check the results or explain the results to management
• Type 2 default rates were too penal
• Inclusion of cash inconsistent as it is not a risk mitigant. Also no allowance for recovery rate means it is more penal to hold cash than derivatives
• Many companies complained of the difficulty in understanding how to distinguish between Type 1 and Type 2 exposures
SCRFurther Comments from EIOPA report
• Loss absorbency of deferred taxes
– Frequently not calculated – SCR overstated?
– Additional guidance required
• Equivalent scenario
– Intended to simplify calculation of loss absorbency of technical provisions and deferred taxes
– Default method only used by 39% of undertakings
– Extensive feedback - too complex and impractical
Minimum Capital Requirement
MCR
• About 5% of companies failed to meet the MCR
– Similar figure across EEA
• The MCR generated few comments though some companies did comment that it was not risk based
• Whilst there was a corridor for the MCR of 25% to 45% of SCR, the absolute floor for the MCR did push some companies above this corridor, including some for whom the calculated SCR was less than the absolute floor for the MCR
Internal Models
Internal Models
• Internal Model review is an on-going process
• Models vary in design from each other and from the format of the standard formula
• QIS5 happened early in the Internal Model process
• Difficult to draw too many meaningful conclusions about quantitative results
Internal Models
• Of the Irish companies which gave internal model results the majority used a group model
• The majority of companies already used internal models for a variety of purposes
• The majority of models required further refinement to meet Solvency II requirements
• Expert judgement was widely used
Internal ModelsDifferences to Standard Formula• The internal model included an equity volatility risk and an interest
rate volatility risk
• The internal model reflected concentration risk implicitly through spread risk and explicitly by managing the risk through a Credit Name Limit Policy ensuring that no additional capital charges applied
• The internal model did not explicitly identify claims revision risk separately from the Underwriting Risk around the underlying claims driver
• Internal model credited full tax benefits in the SCR
• No capital was held for non-reporting currency risk
• A different approach or calibration was taken to aggregating risks
Internal ModelsDifferences to Standard Formula• Internal model allowed for full diversification benefit between all legal
entities and EEA and non-EEA countries
• The internal model had significantly more risk factors than the standard model
• Mortality risk was split into trend uncertainty, level uncertainty, volatility and calamity. Level, trend and volatility were combined into life non-catastrophe and calamity was separated. Same for morbidity. Disability was placed under morbidity risk. Non-life was split into prior, current non-catastrophe and current catastrophe
• Insurance risk was assessed but catastrophe risk was not split out
• The loss of the risk mitigating benefit associated with reinsurer default was not considered in the Standard Formula
• The lines of business in the internal model were generally at a much more granular level than those of the standard formula
Overall Financial Impact
Overall Financial Impact
• Most companies saw an increase in Own Funds due to lower technical provisions
• Most companies saw an increase in required capital
• Hence the impact on surplus and solvency ratio depends on the change in Own Funds versus change in required capital
• Overall there is no simple pattern although far more companies saw a reduction in surplus capital than saw an increase
• The majority of those that did see an increase write life business
• In tables below Solvency I required capital is based on 150% of RMSM or 100% of MGF
Overall Financial ImpactSurplus Capital
• Surplus capital is defined as the available capital in excess of the capital requirement
Type of company
Decrease more
than 50%
Decrease up to 50%
Increase up to 50%
Increase more
than 50%Total
Life 10 9 12 45 76
Non-life 72 37 20 14 143
Total 82 46 32 59 219
Overall Financial ImpactSolvency Ratio
• Solvency ratio is defined as available capital/required capital for Solvency I and eligible Own Funds/SCR for QIS5
Type of company Increase Decrease Total
Life 45 31 76
Non-life 32 111 143
Total 77 142 219
Overall Financial ImpactSCR Coverage
Ireland EEAMore than 400%
Between 350% and 400%
Between 300% and 350%
Between 250% and 300%
Between 200% and 250%
Between 150% and 200%
Between 120% and 150%
Between 100% and 120%
Between 75% and 100%
Less than 75%
0% 2% 4% 6% 8% 10% 12% 14% 16% 18%
13%6%
7%
8%11%
14%
13%
9%4%
16%
More than 400%
Between 350% and 400%
Between 300% and 350%
Between 250% and 300%
Between 200% and 250%
Between 150% and 200%
Between 120% and 150%
Between 100% and 120%
Between 75% and 100%
Less than 75%
0% 2% 4% 6% 8% 10% 12% 14% 16% 18%
14%5%
7%
10%
12%17%
11%
8%
6%
9%
Overall Financial ImpactSCR Coverage
Life Non LifeMore than 400%
Between 350% and 400%
Between 300% and 350%
Between 250% and 300%
Between 200% and 250%
Between 150% and 200%
Between 120% and 150%
Between 100% and 120%
Between 75% and 100%
Less than 75%
0% 5% 10% 15% 20% 25% 30% 35%
32%9%
11%
9%
11%8%
11%
4%
0%
7%
More than 400%
Between 350% and 400%
Between 300% and 350%
Between 250% and 300%
Between 200% and 250%
Between 150% and 200%
Between 120% and 150%
Between 100% and 120%
Between 75% and 100%
Less than 75%
0% 5% 10% 15% 20% 25%
3%4%
5%
7%
10%17%
15%12%
6%
20%
Next Steps
Next Steps
• Reviewing and contributing to the further development of the Level 2 Implementing Measures, Level 3 Guidelines and standards and development of additional transitional arrangements
– Further guidance on deferred taxes
– EPIFP task force
– Further detail on MCR calibration
• Working with firms in the ‘pre-application’ phase of the Internal Model Approval Process
• Engaging with European counterparts for the review of European cross-border groups’ internal models
• If you haven’t already done so – discuss the implications of the QIS5 results for your firm at your next Board meeting
Questions?