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LM2 - Cert CII > Chapter 4 - Market Security > Flashcards

Chapter 4 - Market Security Flashcards

1
Q

What is a ‘solvency margin’?

A

The amount that assets exceed liabilities.

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2
Q

What does ‘Solvency’ mean?

A

Solvency means having more assets than liabilities.

For a firm to be solvent, assets must be greater or equal to the sum of paid claims, unpaid claims & operating costs.

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3
Q

What 2 categories can unpaid claims be split into?

A
  1. Those that are known about
  2. Those that are not
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4
Q

What is the ‘Incurred But Not Reported’ (IBNR) figure?

A

The amount to be reserved for unpaid claims.

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5
Q

If a class of business is more volatile in nature, what does this mean in terms of claims?

A

There is a potential for larger claims.

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6
Q

What is an ‘Asset’?

A

Any resource owned or controlled by a business.

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7
Q

What are ‘Liabilities’?

A

Money that is owed to another person or organisation.

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8
Q

What constitutes an insurers ‘Liabilities’?

A
  1. Claims - paid + unpaid.
  2. Costs of reinsurance.
  3. Operating costs.
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9
Q

What is an insurers ‘Assets’?

A

It’s premium and investment income.

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10
Q

What does an insurers ‘Liquidity’ mean?

What does it mean if an insurer is ‘illiquid’?

A

The ease with which an insurers assets can be converted into cash.

If an insurer is ‘illiquid’ - it cannot convert its assets into cash very easily.

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11
Q

What is ‘Liquidity risk’?

A

The risk of not being able to convert assets into cash easily.

(Cash flow issues)

Not being able to release investments quickly enough.

i.e. The insurer has enough assets but cannot convert them into cash jockey enough.

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12
Q

What is a ‘Loss ratio’?

A

The relationship between premium and claims (paid + outstanding).

A loss ratio of less than 100% indicates profit on a pure loss ratio basis.

(Premium Vs. Claims).

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13
Q

What is a ‘Combined ratio’?

A

The relationship between premiums + investment income and operating costs + claims.

(Premium + investment income Vs. Operating costs + claims.)

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14
Q

What does a pure loss ratio indicate?

A

Indicates the relationship between premium & claims, without taking into account investment income & operating costs.

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15
Q

What did the ‘Solvency II and Insurance Regulations 2019’ do?

A

Ensured that the EU Solvency II rules continue to work in the UK now it is outside of the EU.

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16
Q

Who does ‘Solvency II’ apply to?

A

All insurers, reinsurers, captives, and mutuals with their head office in the EU.

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17
Q

What is the one main aim of Solvency II?

A

Ensure that insurers can pay their policyholders claims when needed.

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18
Q

How is the Solvency II Regulatory Framework structured?

A

3 - Pillar Structure (QSD):

Pillar 1: Quantitative requirements

Pillar 2: Supervisory review

Pillar 3: Disclosure

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19
Q

What are the ‘3 Pillars of Solvency II’?

A
  1. Quantitative requirements
  2. Supervisory review
  3. Disclosure

(QSD)

20
Q

Pillar 1: Quantitative requirements?

A

Sets the quantitative requirements.

Requires insurers to demonstrate they have adequate financial resources available to cover exposure to risk.

Financial requirements: insurers assets must exceed its liabilities - this amount is their ‘Solvency Capital Requirement (SCR)’.

There is a lower amount called the ‘Minimum Capital Requirement (MCR)’.

21
Q

Meaning of ‘Solvency Capital Requirement (SCR)’?

A

An insurer’s SCR is the amount of assets available in excess of its liabilities.

If it’s SCR is breached (insurer doesn’t have enough assets to balance liabilities), this is an early warning to regulators for problems.

SCR is part of the 1st pillar of Solvency II.

22
Q

Meaning of ‘Minimum Capital Requirement (MCR)?

A

MCR is the lower amount an insurers assets must balance its liabilities.

If MCR is breached then regulatory intervention is likely.

23
Q

Pillar 2: Supervisory review?

A

Sets the qualitative requirements.

Requires insurers to participate in an internal review called an ‘Own Risk and Solvency Assessment (ORSA).

Insurers must adopt an effective risk management system for all risks to which it is exposed, and determine the necessary capital to hold against these risks.

Risk management and risk assessment systems must be implemented by senior management.

24
Q

Pillar 3: Disclosure?

A

Insurers must publicly disclose more information than historically.

25
Q

What is an example of a ‘credit/counterparty risk’?

A

Premiums not being paid.

Reinsurance claims not being recoverable because the reinsurer is insolvent.

26
Q

An example of an ‘Operational risk’?

A

Business being unable to operate because of damage to the building.

Market systems not being available for use.

27
Q

Example of a ‘Market risk’?

A

Investments failing.

Exchange rate losses when dealing in different currencies.

28
Q

What is a ‘Liquidity risk’?

A

Risk of not being able to convert assets into cash quickly enough (cash flow issues).

29
Q

What is ‘Group & capital risk’?

A

Large organisations must monitor their syndicates & companies if they write lines on the same risk - there is a risk of one using up all the reinsurance cover.

30
Q

What is an ‘Enterprise risk’?

A

Risks that can impact the entire wider business.

31
Q

Who is the overarching regulator for Solvency II?

A

The European Insurance and Occupational Pensions Authority (EIOPA).

32
Q

Who carries out the day-to-day supervision of Solvency II in the UK?

A

The PRA.

33
Q

How do Solvency II regulators treat Lloyd’s?

A

Regulators treat Lloyd’s as a single entity.

34
Q

What is the ‘Lloyd’s Central Fund’?

A

It is a pot of money held centrally by Lloyd’s.

The Central Fund is the final link in the Lloyd’s chain of security.

35
Q

What does the existence of the ‘Lloyd’s Central Fund’ help the marketplace maintain?

A

Solvency.

36
Q

What are the 3 ‘Links’ in the Lloyd’s chain of security?

A
  1. Syndicate level assets.
  2. Members’ Funds at Lloyd’s (FAL).
  3. Central assets (central fund).
37
Q

What is ‘Syndicate level assets’?

A

The first link in the Lloyd’s chain of security.

Premiums received for the business written which are held in trust funds. These are the first source of money to pay any claims. Funds must be able to liquidate easily to pay claims (be converted from assets to cash quickly).

38
Q

What is ‘Members Funds at Lloyd’s (FAL)’?

A

Second link in the Lloyd’s chain of security.

Is the funds paid to Lloyd’s by the members of the syndicate as a condition of investing in the market.

Funds for each member are calculated by uplifting the SCR by a certain % - This uplift is the Economic Capital Assessment (ECA).

Members invest the funds necessary based on the ECA.

39
Q

What are ‘Central assets’?

A

The third link in the Lloyd’s chain of security.

The Lloyd’s Market has a ‘Central Fund’ to pay any valid claims if all other funds are exhausted.

The Council of Lloyd’s has ultimate control of the use of the Central Fund.

Central fund is fed by contributions of all premium in the market - The basic contribution rate is 0.36%.

New corporate members must pay 1.4% for the first 3 years.

40
Q

Who is ultimately responsible for the Lloyd’s Central Fund?

A

The Council of Lloyd’s.

Under the Central Fund Byelaws.

41
Q

What is the basic contribution rate on all premiums for the Lloyd’s Central Fund?

A

0.36% for existing members.

1.4% for new members for first 3 years.

42
Q

If a member has a premium of £500,000, what calculation calculates the contribution to the Lloyd’s Central Fund?

A

0.36% X £500,000 = £1,800.

43
Q

What does a Rating Agency do?

A

Rating Agencies score insurers/reinsurers on their strengths.

It provides an independent opinion.

Rating agencies may look at the insurers ability to pay claims, e.g.

44
Q

How are Companies Vs. Lloyd’s rated by rating agencies?

A

Companies: rated individually.

Lloyd’s: rated as a single marketplace.

45
Q

What are ratings used for?

A

Ratings are used to determine the best markets to place business with.

46
Q

Ratings are a consideration for who when placing business?

A

Brokers.

47
Q

In terms of ratings, in what circumstance might a broker receive a ‘professional’ negligence’ claim when placing business with an insurer?

A

If the rest of the market was NOT downgraded at the same time as the insurers individual downgrade.

(If all peers were downgraded then the reduced rating would have been essentially neutralised).

LM2 - Cert CII (9 decks)

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