CIA.FCT-1 Flashcards
What does FCT stand for?
Financial Condition Testing
What are the 2 goals of FCT?
- Identify threats to the insurer’s financial condition
- Take corrective actions to address those threats
Why does an insurer perform stress-testing?
([Hint: risk-complement-Cap-Liq])
- Helps identify and control risk
- Complement other risk management tools such as Best Capital Adequacy Ratio
- Supports capital management
- Improves liquidity management
What are the 5 key elements of FCT? (BACRO)
- Base Scenario: must develop a base scenario
- Adverse Scenario: must analyze the impact of several adverse scenarios
- Corrective action: identification and analysis of corrective management actions to mitigate risks.
- Report: submit recommendations to management and the board of directors (or chief agent)
- Opinion: Appointed Actuary signs an opinion regarding the financial condition of the insurer.
Briefly describe the stress-testing purpose: ‘risk identification & control’.
risk identification:
- identify concentrations & interactions of risks
risk control:
- adjust individual portfolios or overall business strategy
Briefly describe the stress-testing purpose: ‘complementing other tools’.
Can be used to validate & verify findings from other risk modeling techniques
Briefly describe the stress-testing purpose: ‘supporting capital management’.
Understand where the risks are & set required capital to cover them
Briefly describe the stress-testing purpose: ‘improving liquidity management’.
Assess liquidity profile and adequacy of buffers FOR institutional & market-wide stresses.
To perform FCT, it is necessary to understand which 2 key metrics?
• regulatory capital minimum(s)
• insurer’s internal target capital requirements ← determined by ORSA
True or False?
FCT and ORSA are closely related although ORSA is more comprehensive in nature.
True
Identify the ‘preliminary’ step and the ‘extra’ step in addition to ‘BACRO’ when performing FCT.
preliminary step:
- review financial position at year-end for each year in historical period
extra step at the end:
- identify possible regulatory action
Identify the 2 actions performed during the review of operations and financial position (preliminary step).
• review balance sheet, statement of income, and source of earnings for an appropriate number of years
• analyze any trends in these numbers
What is the desired forecast period for FCT?
- the forecast period should be long enough to capture
[1] risk emergence
[2] financial impacts
[3] ripple effects
[4] corrective action
→ generally 3-5 years although there is no minimum (should also be consistent with ORSA)
How do you determine the materiality standard for FCT? (3 elements)
FCT sets the materiality standard with management input and by specifically considering:
- size of insurer
- financial position
- nature of regulatory test
Define the term base scenario.
A set of assumptions on risk factors that are consistent with the business plan over the forecast period (**if plan is realistic & consistent).**
Define the term adverse scenario.
A scenario that is developed by stress-testing assumptions used in the business plan (look specifically for risk factors that threaten financial condition).
Define the term solvency scenario.
A plausible adverse scenario
- should fall
above
the95th percentile on the loss distribution
(if distribution is available) - or possibly as high as the 99th percentile and beyond depending on circumstances
Define the term going-concern scenario.
An adverse scenario that is more likely
and/or less severe
than a solvency scenario (could include risks not considered in solvency scenarios).
- should fall
above the 90th percentile on the loss distribution
(if distribution is available)- could include risks not considered in solvency scenarios
What is a ripple effect?
- An
event
thatoccurs
when anadverse scenario
triggers achange
in 1 or more inter-dependentassumptions
. - Can include policyholder actions, management’s routine actions, regulatory actions
- Example: a ripple effect of an earthquake may be loss of reinsurance
What is a corrective management action?
An action management takes to mitigate adverse ripple effects
What is an integrated scenario for FCT?
A scenario created by combining two or more risks factors to produce a new plausible adverse scenario
Example: combine a low-probability scenario with a higher-probability adverse scenario
An FCT model should reproduce which 4 key elements of the Financial Statements?
- Balance sheet: assets, liabilities, retained earnings
- Income statement: revenue and expenses
- Regulatory measures of capital adequacy: MCT ratio, BCAR, MSA ratios
- Sources of earnings: detail on sources of premium ans investments
What is the recommended loss distribution percentile for a going-concern scenario?
90th → 95th percentile (if the loss distribution and percentiles are available)
What is the recommended loss distribution percentile for a solvency scenario?
95th → 99th percentile (if the loss distribution and percentiles are available)
* or even beyond the 99th percentile in some cases