World Bank / IFC Global Insurance Conference. Challenging aspects of Solvency II and the Own Risk Solvency Assessment (ORSA)

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1 World Bank / IFC Global Insurance Conference Challenging aspects of Solvency II and the Own Risk Solvency Assessment (ORSA) Mehmet Ogut 1 June 2011

2 Challenging aspects of Solvency II Disagreements over requirements Within industry Industry vs supervisors Between EEA countries EEA vs non-eea countries (equivalence) Making decisions on moving targets Evolving requirements Uncertainty in timelines (Omnibus II) Response of rating agencies, competitors, customers, shareholders IFRS Phase II Changes to capital requirements Changes to product mix Changes to asset allocation Restructuring of groups M&A Large gaps against requirements Technical resources Data and systems Documentation and reporting Governance processes 2 Actuarial & Insurance Solutions

3 Own Risk and Solvency Assessment (ORSA) 3 Actuarial & Insurance Solutions

4 What is Own Risk and Solvency Assessment (ORSA)? A key requirement of Solvency II ORSA In a nutshell The ORSA is the entirety of the processes and procedures employed to identify, assess, monitor, manage, and report the short and long term risks a (re)insurance undertaking faces or may face and to determine the own funds necessary to ensure that the undertaking s overall solvency needs are met at all times. * * Source: 9 of CEIOPS Issues Paper on the Own Risk and Solvency Assessment, CEIOPS-IGSRR-09/08, May 2008 Overall solvency needs System of Governance Risk Management System All material risks Assessment of risk profile Deviation from assumptions underlying the solvency capital requirement (SCR) calculation Own Risk and Solvency Assessment (ORSA) Internal Model Internal Model / Standard Standard Integration into strategic decision making Level 2 guidance has Formula not been developed, but the ORSA has been much discussed in industry Formula Forward looking Continuous compliance with the requirements regarding capital and technical provisions Short and long term risks 4 Actuarial & Insurance Solutions

5 Pillar I (calculation of the solvency ratio) versus ORSA Pillar I ORSA Not all risks are covered in the SCR calculations Concerned with solvency at a point in time Specified time horizon, risk measure, confidence level No link to business strategy All risks must be covered, e.g. Legislative risk (tax, etc) Strategic risk Liquidity risk Model risk, Parameter risk Requires processes and procedures to ensure compliance on a continuous basis e.g. realistic plans to raise additional capital if and when required May use own basis for assessing solvency needs, different valuation basis ORSA must take into account risk profile, risk tolerance levels, business strategy The Board should know: -the risk profile of the company and how to afford it -how the strategic (3-5 year) plan, including the bumps along the way, can be executed ORSA, in return, will influence strategic decisions, e.g. Assessment of whether to retain or transfer risks How to price risks 5 Actuarial & Insurance Solutions

6 Principles-based requirements Requirements regarding ORSA are not prescriptive, but principles-based. The main purpose of the ORSA is to ensure that the (re)insurer engages in the PROCESS of: assessing all the risks inherent in its business, determining its corresponding solvency needs, embedding the output of the assessment into the strategic decisions. ORSA will provide valuable information to supervisors on how to improve Solvency II requirements in the future. 6 Actuarial & Insurance Solutions

7 Significant challenges In many dimensions Ambition level Who is involved? Stakeholder engagement Management understanding Documentation requirements? Frequency? Processes to identify, assess, manage, monitor and report risks Processes to ensure compliance with requirements regarding capital and technical provisions Compliance or management tool? Risk Management Business lines Multi-disciplinary team ORSA policy Record of each ORSA process Internal documentation of output Information for the supervisor At least annually ORSA and the financial reporting cycle ORSA and budgeting, strategic cycles Feedback loops Early warning indicators Contingency plans 7 Actuarial & Insurance Solutions

8 Significant challenges In many dimensions Data, tools, models? Validation What happens when risk profile is different to that assumed for SCR? Capital management strategies linked to ORSA How will supervisors be able to review? -Use of existing data, tools, models? -Quantitative methodologies? -Expert judgment -Stress tests -Scenarios (including potential management actions) -Internal or external? -Reconciliation with SCR, financial statements -Change risk profile -Use risk mitigation tools -Internal model -Dialogue with supervisor -Reinsurance -Access to public debt markets -Investment policy -Product design -Hedging -Restructuring business units/legal entities Consistency between EEA supervisors 8 Actuarial & Insurance Solutions

9 ORSA Summary 1) Forward-looking We are solvent now, but will we be solvent at all times during the next X years given our risk profile, risk tolerance levels, business strategy? 2) Requirements are principles-based, not prescriptive 3) Significant challenges in many dimensions Governance Cultural Process Methodology Technical Implementation Internal Reporting Disclosures ORSA will evolve, improve over time 9 Actuarial & Insurance Solutions

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