Risk Management Setting a New Course - Choisir une...

Raj Singh | MultaQa Qatar 2010 | 8 March 2010

Risk Management –Setting a New CourseRaj Singh, Chief Risk Officer, Swiss ReEuropean Commission, DG MARKT, 12 November 2010

EC, DG MARKT meeting | 12 November 2010 2

Agenda

(Re)insurance fulfils important economic functions

(Re)insurers weathered the crisis well

(Re)insurers are faced with challenging regulatory reforms

Crisis reinforces the call for strong ERM – Swiss Re's approach

Closing remarks


(Re)insurance fulfilsimportant economicfunctions

3EC, DG MARKT meeting | 12 November 2010


(Re)insurance enablesentrepreneurial risk-taking

«This has only been made possible by the insurers.They are the ones who really built this city. With no insurance,there would be no sky-scrapers.No investor would finance buildings that one cigarette butt couldburn to the ground.»

Source: Swiss Re, Introduction to Reinsurance ed. 1995/2000

Henry Ford,referring to New York City in the early 20th century:


(Re)insurance is a catalyst foreconomic growth

What (re)insurers do Benefit to society Pre-requisites

Risk transferfunction

Diversify risks on anational or globalbasis

Make insurance morebroadly available andless expensive

Mobility of premiumsand capital

Capital marketfunction

Invest premiumincome accordingto expected pay-out

Provide long-termcapital to the economyon a continuous basis

Ability to invest in realeconomy (equity,corporate bonds, etc)

Informationfunction

Put a price tag onrisks

Set incentives for riskadequate behaviour

Market and risk-basedpricing

(Re)insurers absorb shocks, provide capital for the real economy andsupport risk prevention


(Re)insurers manage the coverage oflarge and complex eventsInsured catastrophe losses 1970–2009

0

20

40

60

80

100

120

1970 1975 1980 1985 1990 1995 2000 2005Earthquake/tsunami Weather-related Nat Cats Man-made disasters

USD bn, at 2009 prices

Source: Swiss Re, sigma No 1/2010, Figure 3

2005:Hurricanes

Katrina, Rita,Wilma

2008:Hurricanes Ike,

Gustav

2001:Attackon WTC

1999:Winter storm

Lothar

1992: HurricaneAndrew 1994:

NorthridgeEQ

2004:Hurricanes Ivan,Charley, Frances

Ocean Drive, FL, 2000

Ocean Drive, FL, 1926

increased insurancepenetrationmore valuesmore values in high-risk areashigher vulnerability

climate change (storm,flood)


Diversification is necessary tocover large losses such as terrorism

International(re)insurers paid 64%of 9/11 related claimsof USD 26.8 bn

By Company headquarters USD million

U.S. Reinsurers 4 109

U.S. Primary Insurers 5 659

Europe Reinsurers 5 506

Europe Primary Insurers 3 865

Bermuda Companies 2 479

Lloyd's 2 844

Japan Companies 2 338

Total announced 26 799

Source: Dowling & Partners

World Trade Center Losses


Same benefits of global diversificationapply to coverage of hurricanes

Source: J. David Cummins, “The Bermuda Insurance Market: An Economic Analysis”, 6 May 2008.

Regional distribution of 2005 hurricane payments: Wilma, Rita and Katrina

0%

100%

80%

60%

40%

20%

Wilma Rita Katrina

OtherUS ReinsuranceUS InsuranceLloyd’sEuropeBermuda

Foreign (re)insurersmade more than 60%of Wilma, Rita andKatrina total losspayments of USD 59 bn

Open markets for (re)insurance are a pre-requisite to efficientlyabsorb large risks


Demographics indicatelife and health insurance growth will continue

Source: Swiss Re, Economic Research and Consulting

Ageing population in the developed world

Continuous improvement of average global standard of living

Responding to increasing demand for insurance and wealth protection solutions

36 3118

2618 15

27 21 17

6064

6566

6858

6566

61

618

8 1528

8 1222

4

0%

20%

40%

60%

80%

100%

1950 2000 2050 1950 2000 2050 1950 2000 2050

0-14 (in %) 15-64 (in %) 65 or over (in %)

Asia Europe North America

Age:


In managing risks, insurers become theworld’s largest institutional investors

Assets under management, USD trillion

Source: McKinsey Global Institute, The new power brokers, 2009

25.0

18.8

16.2

5.0

4.8

1.4

0.9

0 10 20 30

Pension funds

Mutual funds

Insurance companies

Petrodollar foreignassetsAsian sovereigninvestorsHedge funds

Private equity

Insurers’ world-wideinvestments totalledUSD 16.2 trillion(= 22.5% ofinstitutional investors’assets at end of 2008)

Insurers and pensionfunds together accountfor 57% of institutionalinvestors’ assets undermanagement

The real economy needs the financing from (re)insurers and pension funds


Insurers provide long-term capitalto the economy

Asset allocations of nonlife and life insurers

Source: Swiss Re Economic Research & Consulting *US, Japan, UK, France, Germany ** Germany and France

0%

20%

40%

60%

80%

100%

Non-life Life

Cash

Other

Real estate

Loans

Equities

Bonds

Overly conservative investment rules would mean lower returns forpolicyholders and less capital for the real economy

Bonds61%

Shares5%

Investments inaffil.

undertakings4%

Cash anddeposits

1%

Land andbuildings

2%Mortgages

1%

Participation ininvestment

pools12%

Investmentsfor linked life

insurance15%

Based on five largest insurance markets* Example European life insurers**


(Re)insurersweathered the crisis well



Crisis hit insurers less than banks,resulting in lower recapitalisation need

Cumulative credit losses since 2007

Source: Geneva Association Systemic Risk Report 2010 based on Marsh EMEA Insurance Reports 2007, 2008 and 2009, Bloomberg (as at 10 February 2010), DataStream, Oliver Wyman analysis

x 6

USD 271bn

USD 1715bn

0

500

1 000

1 500

2 000

Insurers Banks

Lower credit losses for insurers meant stable prices and capacity for customers

Total capital raised globallyCumulative since 2007

x 9

USD 170bn

USD 1468bn

0

500

1 000

1 500

2 000

Insurers Banks


Overall, (re)insurance weatheredthe crisis relatively well Reinsurers’ losses were mainly related to investments due to the

asset meltdown in financial markets

Reinsurers remained solvent and no diversified reinsurer failedduring the crisis

Cover was always provided both in insurance and reinsurance, andclaims were paid as usual throughout the crisis. Prices remainedstable

Problems arose from monoline insurers involved in financialguarantee business and insurers with important quasi-bankingbusinesses

Crisis revealed critical accounting issues and flaws in supervisorysystems

Core (re)insurance was conducted in a “business as usual” manner


0

10

20

30

40

50

60

70

80

90

100

110

Dec 06 Jun 07 Dec 07 Jun 08 Dec 08 Jun 09 Sep 09E

Capital situation of large(re)insurers recovered after a dip

Shareholders’ equityIndex Jun 2007=100, USD*

*) Sample: ACE, AEGON, AIG, Allianz, Aviva, AXA, AXIS, Fortis, Generali, Hartford,HSBC, IAG, ING, Liberty Mutual, Lincoln Financial Group, Manulife Financial,Mass Mutual, MetLife, MSIG, Prudential, PLC, QBE, RSA, Talanx, Travelers, Vienna,XL Capital, Tokyo Marine, Zurich, Chubb, Prudential Financial

Shareholders’ equity by countryIndex Q4 2007=100, USD

Sources: Company reports, Bloomberg, Swiss Re Economic Research & Consulting

Top 30 companies* = approx. 25% market share

0%

20%

40%

60%

80%

100%

120%

2007Q4 2008Q1 2008Q2 2008Q3 2008Q4 2009Q1 2009Q2 2009Q3

Sample average (21 companies) 3 Canadian companies

7 US companies 6 European globals

5 UK companies**UK companies are reporing semiannually Source: Company reports, Bloomberg


Different business models ofbanks and (re)insurers demanddifferent regulatory treatment

Issue Insurers Banks

Contract Insurance only pays when there is a realinsured event (financial loss asconditionality).

Capital market contracts pay whetheror not the counterparty has a loss(sight / term contracts).

Liquidity risk Insurance business is pre-funded throughpremium payments. There is no liquidityrisk in property & casualty, however, lifesavings products can be redeemed, butusually only at a high cost.

Many of the liabilities of banks –deposits, savings accounts andcommercial paper – are short term.Therefore, significant liquidity risksexist.

Contagion There is little risk of contagion betweeninsurers. And gradual cash flows allow totake corrective actions.

The inter-bank markets and othershort term funding make banksvulnerable to contagion (bank run).

Unwinding of globalgroups

Due to the long duration of liabilities,insurance books of business can bewound-up by regulatory authorities in anorderly manner.

Due to the risk of a bank run,regulatory authorities must act veryquickly to avoid further disruptions.And the crisis revealed that therewas a need for bankruptcy laws forlarge investment banks.


Deferred acq.costs; 2%

Intangibles; 3%

Other assets; 11%

Reinsurancerecoverables; 11%

Total investments;73%

Shareholders'equity ; 20%

Hybrid debt; 3%Debt; 4%

Other liabilities;18%

Technical Reserves,gross 56%

Assets Liabilities

Source: Swiss Re, Economic Research & Consulting

Low levelof short-term debt

Insurance ispre-fundedby premiumsAssets

matched toliabilities,often held tomaturity

* Based on asample of 27leadingreinsurancecompanies,excl. BerkshireHathaway

Reinsurance industry*, 9 months 2009

Assets Liabilities

(Re)insurers’ balance sheet:built-in resilience to shocks

Payment istriggered byreal event

No systematic liquidity risk in (re)insurers’ balance sheet

Accounting mismatch between assets and liabilities as key issue


79% 72%

40%

10%23%

7% 13%

4%8%

36%

30%

41%

43% 25%

17%

19%

45%37%

7% 9%6%

28%

5%

10% 11% 18%32%

11% 8% 7%1%

3% 2%

0%

20%

40%

60%

80%

100%

CommercialBanking

Retail Banking Sales & Trading AssetManagement

Life Insurance P&C Insurance Reinsurance

Credit Market Life Insurance P&C Insurance Business Operational Other

Risk profile of insurers is morediversified than that of banks

Source: Geneva Association Systemic Risk Report 2010 based on 2006 ECAP Survey, – IFRI CRO Summary, prepared by Oliver Wyman – Companies’ Annual Reports

Financial risks Insurance risks Other risks

Breakdown of economic capital for European banks and insurers


(Re)insurers are facedwith challengingregulatory reforms



The crisis accelerated existing regulatoryinitiatives and triggered new ones

United StatesFederal Insurance OfficeSystemic regulatorNAIC solvency modernizationFinancial tax initiativesCDS regulationCompensation regulationRating agencies reform…

EuropeSolvency II implementationNew supervisory architectureCrisis managementCompensation regulationInsurance guarantee schemesRating agencies regulationPension reformRevisiting securitisation… International

IAIS ComFrameFinancial Stability BoardIMF leviesIASB & FASB projectBasel IIIG 20 agenda…


Insurance industry faces significantregulatory challenges

Regulatory developments

New macro-supervisory regimes

Conservative regulatory reactions

Spill-over risks from banking requirements

Influence of central banks

Protectionism and fragmentation of regimes

Market distortions and competition issues

Supervisors and governments under political pressure to implementchanges without full assessment and appreciation of economic impact


Promote sound risk and capital management

• Principles of approved Framework Directive are economic and risk-based

• Implementation to properly reflect these principles

Introduce effective group supervision

• Regulation must keep pace with globalisation of business

• Large institutions to be supervised in their entirety

• Revisit group support regime after 2015

Increase regulatory convergence through equivalence

• Opportunity to accelerate cooperation and recognition among regulators

• Switzerland well positioned for equivalence: Swiss Solvency Test (SST)complemented by Swiss Quality Assurance (SQA)

Crisis reinforces the case for Solvency II –Principle-based, economic and risksensitive approach


Industry raises concerns on Solvency IIimplementing measures

Treatment of own funds

Calibration of capital requirements

Internal model approval process

Reporting and public disclosure

Key objective for (re)insurers is to avoid detrimental effects of the new EUsolvency regime on the European insurance industry

Recognition of (non-prop.) reinsurance

Calibration of cat risks (primary non-life)

Segmentation for technical provisions

Diversification effects at group level

Industry welcomes Solvency II as new risk sensitive solvency regime

However, on-going regulatory concerns due to conservative proposals from thesupervisors through CEIOPS

QIS5 is a critical test; first finding demonstrates that the standard formula is notappropriate for large (re)insurance groups

Reinsurance specific issuesIndustry general concerns


Systemic risk debate is shifting to(re)insurers, while they were not thesource of the crisis Both supervisors and the insurance industry have concluded that core

insurance activities do not pose systemic risk

– Geneva Association report (March 2010) and IAIS position paper (June2010)

However insurance supervisors remain under pressure and insurance is partof macro-prudential regulation

Financial Stability Board (FSB) has focused on systemically important banks,as they are at the centre of the financial crisis

– FSB paper on moral hazard associated with SIFIs

Focus is shifting to other financial institutions, including (re)insurers

Critical to strike the right balance between (re)insurance and systemic riskregulation


Size: a typical large insurer is much more diversified than a bank; the size of specific activitiesshould be assessed rather than the whole institutions

Interconnectedness: insurers and reinsurers far less inter-connected than banks in their risktransfer and funding activities

Substitutability: insurance capacity is highly substituable as demonstrated after naturalcatastrophes

Timing (IAIS criteria): insurers are not exposed to sudden liquidity crunches and timing ofinsurance claims settlements reduced the risk of contagion

Source: FSB, IAIS

Review of FSB/IMF systemic risk definition and criteria

The impact of the definition and criteria of systemic risk varies depending onthe range of activities carried out by financial institutions

Regulatory focus needs to be on riskactivities and not on institutions The insurance industry provided policymakers and the public with its view on

systemic risk in insurance through the special report of the Geneva Association(March 2010)

The report indentifies potential systemic risk drivers and puts forward somerecommendations on how to deal with them


Implement comprehensive, integrated and principles-based supervision ofinsurance groups

1

Establish macro-prudential monitoring with appropriate insurance representation4

Strengthen liquidity risk management2

Enhanced regulation of Financial Guarantee Insurance3

Strengthen risk management practices and build on lessons learned5

Mitigating measures to reinforce regulatory regimes and strengthen industry practice

The industry put forward fiverecommendations to strengthen its resilience

To tackle the issue of systemic risk, supervisors and policymakers need toidentify systemically risky activities

Potentially systemically relevant activities should be dealt with through aresponsive regulatory framework


Cross-sectorial implications of regulatoryreforms need to be better understood

Banking and capital markets reforms

Basel III and liquidity reforms

Contingent capital and new forms of "loss absorbency for banks"

Resolution and "living wills"

Derivatives regulation and securitisations

Insurance industry concerns

Regulatory reforms must take into account the linkages/repercussions betweenregulatory changes in different sectors

Regulatory changes threaten to move insurers away from optimum pattern of assetand liability holdings

Limitations of insurers' willingness/appetite to supply (CoCos) finance to banks

Insurers cannot not be the solution to problems that regulators are trying to fix inthe banking sector

EC, DG MARKT meeting | 12 November 2010

Insurers and bank wind-ups are notcomparable as they are driven by differentbusiness models

Insurers are required to hold reserves against claims as well as incurred but not yet reported claims

Supervisors’ early intervention allow appropriate work out (reinforced under Solvency II)

Low lapse rates in life insurance during run-off (as compared to banks)

Insurance failures extend over many years, as liabilities mature over an extended period

Insurers lack two-way trading portfolios as they have one set of liability holders and one set of assets

(Re)insurer failures should not be prevented at any cost – (re)insurers are not "toobig to fail"

Insurance company wind-ups traditionally conducted in an orderly manner

■ Strict regulation on reserves covering liabilities■ Policy-holders’ claims generally receive privileged treatment in insurers’ insolvencies■ Supervisors have far reaching powers ahead of actual insolvency■ Supervisors can act as liquidators or order deconsolidation during insolvency proceedings■ International legal challenges remain in the case of cross-border resolutions

Regulatory frameworks provide further stability to insurers wind-ups


Global (re)insurers actively participatein the global regulatory debate

Underline (re)insurancespecificities

Acknowledge differences in business models of (re)insuranceand banks - and therefore a differentiated regulatory approach

Promote sound risk andcapital management

Maintain market accessand level playing field

Promote global regulatorystandards

Implement economic and risk-based regulatory frameworkunder comprehensive group supervision

Support IAIS effort to establish global standards and achieve greatertransparency and recognition among supervisory regimes

Secure commitments to open markets and avoid marketdistortions

Respond to remainingresolvability concerns

Address international legal challenges and engage into opendialogue with (group) supervisors and colleges

Key objectives for the industry

Enforce market-consistent valuation and avoid pro-cyclicalityunder harmonised accounting standards

Achieve accountingconvergence

EC, DG MARKT meeting | 12 November 2010

Swiss Re takes an active part inindustry discussions on the newregulatory regimesSwiss Re’s activities Active contribution to consultation papers

Discussions with regulators and supervisors' experts groups

Active participation in various industry bodies

Pan €EuropeanInsurance Forum

European Financial Services Roundtable Institute of International Finance

Geneva Association

Reinsurance American AssociationPan European Insurance Forum

Comité Européen des Assurances

CRO Forum

CFO Forum

American Council of Life Insurance


Crisis reinforces thecall for strong ERM –Swiss Re's approach



Operationalrisks and theirmanagement

1990s Today

Enterprise Risk Management (ERM)

Integrated perspective, i.e.comprehensive analysis andquantification

Capital allocation and riskadjusted returns

Financial marketrisks and theirmanagement

1970/80s

Mitigation ofinsurancehazards

1960s

Swiss Re has been driving keydevelopments in the evolution of riskmanagement in the industry

Integratedmodelling

IndependentCRO functionat ExecutiveBoard level

Nat Cataccumulationcontrol

Financialmarket riskmodelling

Technical focuson life riskmanagement

Industry

Swiss Re


Independent and centralized risk functionremained critical during the crisis

The economic crisis highlighted the importance of a centralized riskfunction

Realizing the full benefit of an independent function requires that

Risk function is well embedded in the strategic steering of thecompany

CRO has an equal seat at the decision table

Risk has the courage to raise its voice

Risk provides an independent and transparent view of obstaclesahead


Capital and liquidity risk managementwere key focus during the crisis

Four key control requirements of insurers …

Capital– Sufficient capital to absorb unexpected

losses?

Capital adequacy framework

Liquidity– Sufficient spot liquidity and liquidity

generation capabilities under stressedconditions?

Liquidity stress testing framework consistentwith capital view

… give rise to two key questions

Insurer balance sheet

Liabilities

Economicequity

Assets

Pool large number ofsufficientlyindependent risks, tomake aggregateclaims morepredictable

Use risk capital to ab-sorb unexpectedlosses

Control ALM risk

ALM

Hold enoughliquid assets tomeet expectedand un-expectedliquidityrequirements

Control diversification

Ensure assetliquidity

Investing premiums and capital to matchmarket risk of liabilities

Ensure capitaladequacy


Capitalallocation

Strategy

TargetsettingDecision-

making

Portfolio-and

performancemeasurement

Group risk policy andtolerance

Capital costallocation(projected)

Large transactionapproval

Risk model input intooptimisation

Testing of risktolerance criteria

Derivation of limitframework

Capital costallocation(factual)

Reporting ofimpact on capitaladequacy

Limit monitoring

Accumulationcontrol

Part of all decision takingbodies concerned with risktaking

Risk management further embeddedacross the full performance cycle


Do we hold enough capital (survival)?

Regulatorycapital

Ratingcapital

Internalcapital

Liquidity stress test

“Extreme loss event”:100 year annual aggregate Group loss

Capital adequacy requirements Related liquidity risk

Swiss Re risk tolerance:“To be able to continue to operate following an extreme loss event.”

Can we meet all our obligations as they falldue (operation)?

Definition of risk tolerancereinforced as the basis for risksteering and limit setting

Strategy


Leading-edge internal modelcontinuously enhanced andchallenged to reflect changingrisk environment

Over 15 years experience in integrated riskmodelling

Over 10 years experience in economic valuemanagement (EVM)

Basis for reporting to Swiss supervisor (SSTon Tail Var risk measurement)

Consideration of entity relationships andintra-group transactions

Time-tested expertise

Targetsetting

P&C risks Creditrisks

L&Hrisks

Financialrisks


Quantitative limit frameworktranslates risk tolerance intodefined risk appetite

Group risk tolerance

Available capital

Annual Group Plan

Group Tail VaR of Plan

L&H risk Financial risk

Nat Cat

TC NA

WS EU

EQ California

EQ Japan

Mortality

Longevity

Equity

Hedge Funds

Interest Rate

Real Estate

Credit (spread &default)B

usin

ess

capa

city

mea

sure

Bus

ines

s ca

paci

ty m

easu

re

Risk appetite derived byoptimisation procedures

Risk tolerance criteria ofthe Board

Actual situation from allcapital perspectives

Group Risk Model as basisfor limit setting

Targetsetting

Bus

ines

s ca

paci

ty m

easu

re

P&C risk


Importance of group-wideliquidity risk managementincreased during the crisis

Liquidity is fundamentally different from capital and requires separatemeasurement – but fully integrated into Swiss Re’s ERM

Swiss Re’s core policy is to hold sufficient unencumbered highly liquid assets inthe individual regulated entities to meet potential liquidity stress event

Swiss Re has proactively responded to the market crisis by

– reviewing and strengthening our liquidity stress tests assumptions

– suspending our share buyback programme

– selectively raising additional liquidity

– increasing the amount of readily available liquidity held centrally

Swiss Re’s exposure to liquidity risk (mainly through its legacy activities andregulatory constraints) is managed and monitored centrally

Capitalallocation


Chief Risk Officer (CRO)participates in all Groupcommittees concerned withrisk taking

Decisionmaking

Finance and RiskCommittee

Board ofDirectors

CompensationCommittee

AuditCommittee

InvestmentCommittee

Risk and CapitalCommittee

Asset-LiabilityCommittee

Products andLimits Committee

RegulatoryCommittee

Executive Committee


Independent risk reporting toprovides transparent and timelyrisk information for internal andexternal stakeholders

Annual reports

Executive Committee / Finance and RiskCommittee Risk Updates

Reports to Regulators (eg SSTReport) and Rating Agencies

Capital Adequacy Dashboard

Liquidity RiskReport

Financial Risk Report

P&C, L&H and ORMdashboards

Measurement

External Internal

Investorpresentations

Clientdiscussions


Closing remarks



Key findings

(Re)insurance enables the risk taking that is essential to economic growth andentrepreneurship

Risk diversification is an essential value proposition of (re)insurers

(Re)insurers are long-term investors; assets are managed against liability-drivenbenchmark

(Re)insurers and banks are driven by different business models, which explainswhy (re)insurers weathered the crisis well

The insurance industry faces significant regulatory challenges due to the crisis asinsurance gets bundled into the banking debate

(Re)insurers are not "too big to fail" and core insurance activities are not sourcesof systemic risk

Solvency II is the appropriate response to the crisis for the insurance industry, butprinciple-based and economic-based approaches need to be preserved

Crisis reinforced the need for an independent, integrated and empowered riskmanagement function

Raj Singh | MultaQa Qatar 2010 | 8 March 2010

Thank you…

Questions ?


Basic Copyright Notice & Disclaimer for Swiss RePresentations provided to External Parties

©2009 Swiss Re. All rights reserved. You are not permitted to create anymodifications or derivatives of this presentation without the prior writtenpermission of Swiss Re.

This presentation is for information purposes only and contains non-bindingindications as well as personal judgment. It does not contain anyrecommendation, advice, solicitation, offer or commitment to effect anytransaction or to conclude any legal act. Any opinions or views expressed areof the author and do not necessarily represent those of Swiss Re. Swiss Remakes no warranties or representations as to this presentation’s accuracy,completeness, timeliness or suitability for a particular purpose. Anyone shall atits own risk interpret and employ this presentation without relying on it inisolation.In no event will Swiss Re or one of its affiliates be liable for any loss ordamages of any kind, including any direct, indirect or consequential damages,arising out of or in connection with the use of this presentation.

Risk Management Setting a New Course - Choisir une...

Documents

Transcript of Risk Management Setting a New Course - Choisir une...