ORSA: What it means for your business. Thai Life Assurance Association Seminar 22 November 2013, Bangkok

Transcription

1 ORSA: What it means for your business Thai Life Assurance Association Seminar 22 November 2013, Bangkok

2 Agenda Section 1. Introduction 2. Solvency & Capital Management 3. Product Management 4. Asset Liability Management 5. Operational Risk Management 6. Conclusions - Business Planning Page 2

3 Section 1 Introduction Page 3

4 What is ORSA? It s Capital Planning Business plans Internal model! It s an audit It s ERM Stress test Page 4

5 What is ORSA? ORSA refers to an insurer s Own Risk and Solvency Assessment Own Relates to your company s own specific understanding Risk Of risks - not just the existing risks but emerging risks (short term and long term) - to ensure Solvency Assessment Solvency (on regulatory capital as well as economic basis) at all points of time under a range of plausible events by Performing an assessment which is aligned with your business strategy. The objective of an ORSA is to allow an insurer to form a complete and holistic view of its risk profile and make an informed decision on its business strategy and capital planning. Page 5

6 Key ORSA principles To conduct an ORSA, an insurer needs establish these principles Integrated policy framework Evidenced and documented Forward looking ERM ORSA Integrated stress and scenario testing Responsibilities of oversight function The outcome of the ORSA Using an integrated stress and scenario testing framework Use Test including contingency planning Risk Assessment and management Adequate measurement and assessment processes Risk Identification All material risks Robust management and oversight function Page 6

7 ORSA report For ORSA report to be meaningful to the Board it needs to address commercial issues Table of contents (illustrative) Exec summary Introduction Objectives Market environment Company performance Risk & capital assessment Current solvency Current risk assessment Forward projections Stress & scenario tests Capital plan Commercial considerations Product risks Strategic asset allocation & ALM risk Underwriting risk Operational risk ERM framework review Risk appetite and RCSA ORSA/ERM processes Governance Appendices and references Focus of today s discussion Capital plan Product risks Strategic asset allocation & ALM risk Underwriting risk Operational risk Page 7

8 Commercial impacts Changing the rules changes the game Corporate structures & portfolio Capital planning Performance metrics Disclosures Products Strategic asset allocation and ALM Reinsurance Tax and expense considerations Some common emerging themes The right set of metrics Competitive advantage or disadvantage New business strategy and product development decisions A rethinking of the role of investment profits A new approach to risk mitigation The fear of moving too fast in advance of regulation, Page 8

9 Section 2 Solvency & Capital Management Page 9

10 Solvency perspectives ORSA needs to address several risk and financial considerations Internal risk and performance management Enables you to monitor and manage risks within the insurance company and its divisions Regulatory compliance Meet all the needs of local statutory capital requirements Ratings & disclosures Support rating agency and investor analyst ratings Page 10

11 Consideration of Capital Measure The ORSA capital measure is a better reflection of an insurer s internal capital needs Scope Approach Confidence level Management actions Time horizon Prescribed Capital Measure Takes into account all quantifiable risks only Uses a standardized calculation Uses a standardized confidence level Does not take into account the impact of management actions Uses a standardized time horizon ORSA Capital Measure Takes into account all quantifiable and nonquantifiable risks, Uses a customizedcalculation Uses a confidence level that is often higher than prescribed Takes into account any agreed management actions Uses a time horizon that is consistent with its business planning time horizon Page 11

12 Capital volatility An economic or market consistent risk based capital regime is by design a volatile regime Illustrative simulation of trend in RBC ratio (%) Alternative simulations Volatility is a direct result of statistical variation Volatility of available capital vs required capital Requires active management Regulators, investors and management education Page 12

13 Scenario 1: Undercapitalization ABC Company s local solvency position displayed a deteriorating trend since % 250% 200% 150% Capital Adequacy Ratio ( CAR ) 270% >200% 200% 193% 160% 140% - 200% RAG zones 5 year trend of deterioration. In 2011 dip to 125% (marginally above regulatory minimum of 120%) 100% USD millions 50% 0% % Risk Exposures (internal measure) <140% Operational Business Insurance Market Key events: Significant losses from Thai flood claims (business interruption and market losses) RBC regulatory and internal model adjustments Aggressive asset strategy to cover yield gap Substantial increase in volume of new business written. Page 13

14 Undercapitalization: Potential issues to consider Understand the situation Overcapitalization temporary or long-term? Weak management, or external How has rapid growth impacted capital ratios? Which risk categories are prominent Short term plans Is de-risking of investment portfolio needed? Capital injection, or restriction of dividend Alternate financing (sub debt, modco reinsurance) Business direction ABC s strategy and risk appetite? Long term attitude to investment risk Diversified product portfolio? Products too good to be true? Page 14

15 Scenario 2: Overcapitalization ABC s local solvency position improved steadily from 2008 onwards 450% 400% 350% 300% 250% 200% 150% 100% 50% 0% USD millions Capital Adequacy Ratio ( CAR ) 410% 420% >200% 290% 270% 320% 140% - 200% <140% Risk Exposures Operational Business Insurance Market De-risking of balance sheet in action from 2008 onwards by better asset liability matching Improving the rating of its bond portfolio Stricter underwriting in place since 2008 Steady growth over last few years has produced steady stream of profits (all retained) Page 15

16 Overcapitalization: Potential issues to consider Is the overcapitalisation temporary or long-term? Has ABC company been too conservative? Time to re-risk the investment portfolio? Return surplus to shareholders? Use surplus to invest in new business? Page 16

17 Section 3 Product Management Page 17

18 Pricing and product optimisation There are multiple potential impacts of the ORSA capital measure on pricing and products, and scope for capital optimisation through product design Products are the core driver of an insurers risk and solvency position Insurance risk ALM position Financing to allow a company to take on investment risk New business strain but long term nature of life insurance means products are a difficult tool to use for risk and capital management in the short term Commercial sales pressure PD is a slow process, eg 6 to 18 months Takes time for their effects to be felt in the in force portfolio Very difficult to manage the in-force portfolio Page 18

19 Reassessment of key profitability metrics (1/2) New performance metrics Range of metrics - Lengthy implementation period In some cases, certain products appear significantly less profitable than under existing metrics Value Categories Return on Capital Capital Efficiency Performance Traditional Measures EV Value of New Business IRR Payback period (cash or capital, discounted or undiscounted) IFRS Profits EV Profits Solvency II Profit or Economic Profit (Ra)RoC Payback period IFRS Profits Net Cashflow Examples of new measures under consideration SII Profit over 5 year period Risk SII or Risk Capital Page 19

20 Reassessment of key profitability metrics (2/2) Discounted profit as % of volume Discounted profit as % of required capital Discounted payback period Undiscounted payback period IRRs with capital requirements IFRS IRRs without capital requirements Other (please specify in comments) IFRS Risk Capital Economic Profit ROCE / ROE Current Post SII Key messages The standard metrics of Discounted profit margin, IRR and payback period are currently most common There are some differences between companies in the definitions of discounted profits (EEV, MCVNB, risk adjusted ) and the capital allowed for An insurer has moved to the Disc Profit as % of Required Capital metric which includes a risk adjusted profit measure The Post Solvency II responses show some further planned changes, with more mentions of IFRS earnings and also mentions of Economic Profit and Risk Capital Many insurers are considering economic profit or solvency II profit type measures and are in the process of understanding initial results on these bases Page 20

21 Example: Non-Par endowment: Illustrative Product Features Premium payment term: Single premium Benefit term: 10 years Sum insured: 10 x premium Fee structure Yr1 Yr2 Yr3 Yr4 Yr5 Yr6+ Admin fee ($) Management fee (% FUM) 0.8% 0.8% 0.8% 0.8% 0.8% 0.8% Surrender charge 10% 8% 6% 4% 2% 0% Death benefit: Sum insured Surrender benefit = Accumulated premium Surrender charge Maturity benefit: Premium plus a minimum guaranteed return of 3% pa Page 21

22 Example: Product analysis Cost of the guarantee? Profitability to include Capital requirement Guarantee reduces the value of the new business Market consistent calculation Investment allocation impact on expected return and cost of guarantee. Further, SCR will be lower due to lower risk charge The above impact will however be offset by lower returns on asset portfolio Page 22

23 Section 4 Asset Liability Management Page 23

24 Management of Asset Liability Mismatch One key component of the ORSA process involves on-going management of asset-liability mismatch risk exposures for life insurers The market-consistent balance sheet is increasingly complex : Assets are volatile, and the liabilities are complex managing available capital vs required capital Change from book value approaches Liability options and guarantees very different to asset O&G Policyholder expectations may be challenged Basis risk Diversification is real,...but how much? Tax complicates the picture Absence of long-dated good quality assets in Asia Page 24

25 Asset allocation - Efficient frontier There is no single right answer, but optimization depends on corporate risk appetite Long term expected yield 2. Cash is inefficient due to low yield and duration mismatch 15 year GovB qportfolio A 30 year GovB Cash 5 yr AA corp bond (local) qcurrent Portfolio RBC Limit qportfolio X Real estate 15 yr A Corp bond (local) qportfolio Y Equities Key assumptions: Liability duration = 15 years A rated = GovB + 150bps Real estate= Cash + 300bp Equity= Cash +500bps Economic Capital requirement Illustrative example 1. Pure asset classes are inefficient due to lack of diversification Pricing rate Page 25

26 Key ALM challenges in the Thai market UL not popular; Fundamental ALM issues for par and non par portfolios Corporate bond limited to short duration Thai Government Bond range and liquidity Volatile equity & property market Volatile currency Limited derivatives market Education of banking and conglomerate shareholders Page 26

27 Section 5 Operational Risk Management Page 27

28 Challenges in operational risk management Lack of data volume & quality Difficult to identify Definition too wide & too vague Not quantifiable, or difficult to quantify Difficult to assess (subjective & judgmental) Lack of analysis tools Difficult to People Systems Processes External Events Management don t care No unique / consistent definition Difficult to control model Businesses are ultimately comprised of people. Companies must implement systems & controls to manage people risk, includes the behavior of the business to its people and behavior of people to the business. Page 28

29 Operational risk in Distribution & Sales The biggest concerns of most CEO s in the region revolve around sales performance Some headlines Insurers attack plan for HK$10m fine on perpetrators of mis-selling. South China Morning Post - Feb 6, 2013, (Hong Kong) Banks to pay for 'swap' misselling, FSA demands BBC News - Jan 31, 2013 (UK) Typical thoughts from industry executives How do I ensure I hit my sales targets with predictability, quarter on quarter, month on month? Focus on higher commissions adds to insurance mis-selling Business Standard - Feb7, 2013, (India) recent Mystery Shopping exercise.. show that up to onethird of recommendations by FA representatives were clearly unsuitable, Mr Lee Chuan Teck, Assistant Management Director for Capital Markets, MAS - Apr 2, 2013 (Singapore) One rogue agent can undermine the good work of the many good agents, and take agency reputation back to the used car salesman image? Even in 2013, we see evidence of agency poaching and policy twisting? Page 29

30 Example: Analysis of Agency Manpower & Productivity Agency manpower growth Productivity Quality 1, , ,131 1, Total Agents Terminated Recruited FYP/Agent Number of policies/agent Compliance breaches Complaints Lack of a well-defined strategy, evidenced by a drop in agency productivity Very niche or very general with an emphasis on establishing a secure position No/limited segmentation - specific or selective agents, products, and customers Small-scale bespoke culture or mass market medium scale culture with a sales-focused career path High growth accompanied by drop in production and quality of advisors Page 30

31 Section 6 Conclusions : Business Planning Page 31

32 ORSA process: target state The ORSA process is an iterative cycle interacting with other processes Q4: Oct - Dec Q1: Jan - Mar Q2: Apr - Jun Q3: Jul - Sep Q4: Oct - Dec Annual Business Plan Statutory Reporting Risk and Controls Self Assessment Annual Business Plan (strategic) Annual Business Plan (Final) Financial Reporting ORSA Reporting Scenario Analysis & Stress Testing Business performance and financial monitoring Risk Appetite & governance Internal Audit review and follow-up Legend Internal External Illustrative example Page 32

33 ORSA and business planning challenges ORSA must be made useful to the Board and senior management for it to be meaningful Who owns ORSA? When is best time to do the main ORSA in the annual cycle? How to link to other activities? IS ORSA backwards looking, or forward looking, or both? Is it an assessment of risk management framework or an assessment of the actual risk? So what? Has ORSA articulated the key business risks, and has it recommended changes to business strategy? Page 33

34 About EY EY is a global leader in assurance, tax, transaction and advisory services. The insights and quality services we deliver help build trust and confidence in the capital markets and in economies the world over. We develop outstanding leaders who team to deliver on our promises to all of our stakeholders. In so doing, we play a critical role in building a better working world for our people, for our clients and for our communities. EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients. For more information about our organization, please visit ey.com Ernst & Young Advisory Pte. Ltd. All Rights Reserved. This material has been prepared for general informational purposes only and is not intended to be relied upon as accounting, tax, or other professional advice. Please refer to your advisors for specific advice.