Capital Requirements And Capital Management Flashcards
What is a risk solvency regime?
Require an insurer to hold sufficient capital for the probability of ruin to be below a specified threshold
Greater the variability, the larger the VaR will be
Define capital management
Involves ensuring that the provider has sufficient liquidity and solvency to meet existing liabilities and future growth aspirations in all reasonably foreseeable events. This often involves maximizing the reported return for the provider
Capital is needed by individuals to:
Provide a cushion against unexpected events
Build up capital for future large expenses
Why do providers need capital?
Provide a cushion against unexpected events
Provide for future expansion costs
Meet regulations
Provide product with guarantees
Achieve strategic aims
Meet benefits before sufficient premiums/contributions have been collected
Invest more freely
Demonstrate financial strength to investors
Smooth reported profits
Capital management tools:
Reinsurance - reduce amount of capital required
Financial reinsurance - provide capital
Subordinate debts - generate additional capital without adding liability
Securitization - converting an illiquid asset into traded instruments
Banking products:
liquidity facilities
contingent capital
senior unsecured borrowing
Derivatives
Equity capital internal restructuring
Importance of initial capital
Develop the product
Provide administration systems
Meet regulations
Deal with mismatch of charges and expenses
Indicate financial strength to customers
Meet early claims
Smooth results on balance sheets
Act as a cushion against unexpected events
Define MCR
The threshold at which company would no longer be permitted to operate
Define SCR
The target level of capital below which companies may need to discuss remedies with the regulators
define economic capital
Amount of capital a provider determines is appropriate to hold in excess of liabilities to cover its risks under adverse outcomes, generally with a given degree of confidence over a given time horizon
Economic capital requirement will be determined upon:
Risk profile of assets and liabilities
Correlation between the risks
Business objectives of the provider
Level of credit deterioration a provider wishes to withstand
Why decide to use prescribed model?
Require less work
Does not have expertise
Does not have the data
Need to make sure model will be resilient over
Time delays could be high to approve internal models
Prescribed model fits risk profile
Address public’s concerns
Produces a lower capital requirement
What major development expenses will require initial capital
setting up suitable management systems
administration expenses
collecting premiums
investing expenses
paying commission to third parties
advertising and marketing expenses
How to manage existing capital by managing assets
asset-liability matching reduces volatility of results of mismatching and reduces solvency requirement
working capital management including banking products such as liquidity facilities
use of financial derivatives to reduce market risk and solvency capital requirement
cautious investing of assets backing solvency capital requirement
How to manage existing capital by managing liabilities
transfer risks via reinsurance or ART
consider level of prudence in the liabilties
reduce the level of guarantees
seek efficiencies in the business
actions other than raising new capital available to a product provider for capital management
managing new business strain - limiting volumes and re-designing to reduce strain
managing retained profits via appropriate distributions
regular monitoring of financial position
mitigating retained risks with cost constraint
