Feldblum Ratings

Question 1

Why do we bother with financial strength ratings?

Answer 1

for policyholders:
* financial strength ratings help buyers assess an insurer’s ability to pay claims
* if the potential policyholder is an insurer seeking reinsurance, the insurer may require the reinsurer to have a high rating

for P&C insurers:
* a high rating can help insurers get business
* a financial strength rating by a rating agency can uncover potential solvency issues without involving a regulator

Question 2

Who does financial strength ratings?

Answer 2

AM Best: has most experience with financial strength ratings of insurers
Moody’s: focuses more on debt ratings
S&P (Standard & Poor’s): focuses more on debt ratings

Question 3

How do rating agencies ensure consistency across insurers?

Answer 3

• standard information-gathering & assessment guidelines
• ratings are related to economic capital
• analysis & final rating should be issued by separate bodies

Question 4

Shortcomings of rating agencies

Answer 4

• conflict of interest: rating agencies are paid by the companies they rate
• history of unreliability: rating agencies have given high ratings to companies that then went bankrupt

Question 5

5 steps of interactive rating process

RM-PDP

Answer 5

• Research: by rating analysts (insurer submits proprietary info)
• Meeting: between rating analysts & insurer’s senior management for presentations
• Proposal: the rating analyst leader proposes a rating (insurer may submit further info)
• Decision: by ratings committee
• Publication: to public & fee-paying subscribers

Question 6

3 drawbacks to interactive ratings

TIE

Answer 6

• Time-consuming: requires extensive meetings with senior management
• Intrusive: insurer must provide detailed operational info
• Expensive: insurer must pay for rating agencies to do the interactive ratings

Question 7

Why do insurers bother with interactive ratings?

USE

Answer 7

• Unrated insurers: agents are wary of unrated insurers
• Solvency assessment: 3rd parties such as regulators or investors may rely on a rating agency’s assessment
• Efficiency: agents, underwriters, regulators don’t have the expertise to evaluate the financial strength of an insurer

Question 8

Capital Models of rating agencies

Answer 8

AM Best:
* EPD (Expected Policyholder Deficit)
* EPD = $P / $V = (Pure premium for treaty) / (Market value of reserves)
* Selection: choose required capital so that EPD = 1%

Moody’s:
* stochastic cash flows to model economic capital
* repeated simulations of loss distributions of separate risks
* Time horizon: project cash flows until liabilities are settled

Std & Poor’s:
* PB (principles-based) models & ERM practices
* evaluate insurer’s (ERM, internal capital model)
* Rating: weighted avg of (S&P, insurer) capital assessment

Question 9

AM Best financial strength categories

Answer 9

• Secure: likely to meet their obligations (3 sub-levels)
• Vulnerable: may not meet their obligations in adverse scenarios (7 sub-levels)

Question 10

AM Best credit quality ratings

Answer 10

• investment grade: 4 levels
• non-investment grade: 4 levels