Dibra - How Insurers Fail Flashcards
Define insolvency.
Involuntary market exit due to a winding up order issued by a supervisory authority.
When is a ‘wind-up’ order issued?
When an insurer is no longer viable:
- CapAv < minCapReq due to unacceptable level of risk in 1 or more categories (IMCO)
- excessive liquidity and insolvency risk
Define insolvency risk.
The risk that an insurer does not have sufficient assets to meet policyholder & other obligations.
Define liquidity risk.
The risk that a company cannot meet short-term financial demands, usually from an inability to convert assets to cash without loss of capital.
Identify EXTERNAL causes of insurer failure. (4)
- U/W cycle, profitability
- catastrophes
- economic & financial market factors
- international exposures
Describe economic and financial market factors. The principles and provide examples.
- volatility (not levels), of economic indicators correlates with increased insolvency risk
Eg: high interest rates alone don’t contribute to insolvency
Describe economic and financial market factors (illustrations).
- insurer often operate with U/W loss BUT compensate by investing premiums
- that strategy is riskier when interest rates/investment return rates are volatile
Describe economic and financial market factors (equity prices).
Not highly correlated w/ insolvencies in Canada because Canadian companies invest mainly in fixed income securities.
Leading proximate causes of insolvency. (4)
- inadequate pricing, deficient loss reserves
- foreign parent
- rapid growth
- alleged fraud
Identify INTERNAL causes of insurer failure. (4)
GOVERNANCE & internal controls (breakdown)
NEW entrants (competition & inexperience)
GROWTH - too rapid (higher LRs for new business)
SIZE - too small to absorb losses
Describe the Governance internal cause of failure.
Poor strategic decisions, U/Wing due to inadequate internal controls on data integrity
Describe the New entrant internal cause of failure.
Competition from established companies, inexperienced management.
Describe the Growth internal cause of failure.
- rapid growth correlated WITH deteriorating loss reserves
- growth into areas (with lack of expertise)
Describe the Size internal cause of failure.
Small firms are less able to absorb unexpected financial stress.
Which insurer has higher insolvency risk?
A smaller, newer, less geographically diversified company that is experiencing rapid growth.
Why is it that full wind-up costs are hard to measure?
Aside from UEP and claim costs, there are ancillary costs incurred by regulators, agents, accountants and reinsurers.
What is the purpose of the PACICC?
To protect policyholders from undue financial loss in an insolvency.
What is the source of funding for the PACICC?
The PACICC is funded through assessments of solvent members companies.
Important aspect of insolvency costs.
The treatment of dividends paid to a guarantee fund as a creditor of the estate.
Compare the treatment of Liquidated Dividends of the PACICC vs the guarantee funds of the US/UK.
PACICC: Liquidated dividends are returned tot he solvent members
US/UK: Liquidated assets reduce any current or future assessments
