IFRS17 - 2 Flashcards
What does Risk Adjustment (RA) for non-financial risk reflect?
RA adjusts PV(future cash flows) to reflect the compensation the entity requires for bearing uncertainty about the amount and timing of cash flows.
What is the basic formula for Fulfillment Cash Flows (FCF)?
FCF = PV(future cash flow) + RA
Identify 4 methods for calculating Risk Adjustment under IFRS 17.
- quantile methods
- cost-of-capital method
- margin method
- a combination of methods
What should be considered when transitioning from IFRS 4 to IFRS 17?
- Consistency of current PfADs with required compensation for uncertainty
- Inclusion of diversification benefits in current PfADs
identify 5 principles for calculating the non-financial risk adjustment in IFRS 17
risk adjustment should be higher for
- risks where there is less information
- low frequency / high severity risks
- longer duration contracts
- risks with wide probability distributions
risk adjustment should be lower with emerging experience
identify 2 further general considerations in calculating the risk adjustment in IFRS 17
- pooling similar risks will lower the risk adjustment
(law of large numbers → more risks implies lower variance) - pooling risks that are negatively correlated will lower the risk adjustment
(because negatively correlated risks will offset each other)
are IFRS 17 measurement requirements based on the ‘unit of account’ or the ‘aggregate’ level
unit of account level
are IFRS 17 presentation requirements based on the ‘unit of account’ or the ‘aggregate’ level
aggregate level
are IFRS 17 disclosure requirements based on the ‘unit of account’ or the ‘aggregate’ level
aggregate level
How should Risk Adjustment be measured according to IFRS 17?
RA must satisfy overall requirements for measurement, presentation, and disclosure of insurance contracts.
What is the impact of diversification benefits on aggregate Risk Adjustment?
If units of account are diversified, aggregate RA should be lower.
How is reinsurance credit risk reflected under IFRS 17?
Through a reduction in expected cash flows.
What are the components of the cost-of-capital method for Risk Adjustment?
- Projected capital amounts
- Cost of capital rate(s)
- Discount rates
Identify one advantage and one disadvantage of the cost-of-capital method.
- Advantage: Allows allocation of RA at a more granular level
- Disadvantage: More complex due to projection of capital requirements
What does the margin method for Risk Adjustment involve?
Select margins that reflect the compensation the entity requires for uncertainty related to non-financial risk.
Identify methods for calculating the Risk Adjustment for reinsurance held.
- quantile methods
- catastrophe models
- proportional scaling
- cost of capital
What is a key consideration for catastrophe reinsurance risk adjustment?
Catastrophes are low-frequency, high-severity events that may require separate risk adjustment analysis.
True or False: The expected ceded losses for catastrophe reinsurance may be zero at a typical selected confidence level.
True
Fill in the blank: The appropriate time horizon for calculating IFRS 17 RA is the _______.
lifetime of the uncertainty in the insurance contract cash flows.
What are the specific methods included in quantile techniques for calculating Risk Adjustment?
- VaR (Value at Risk)
- CTE (Conditional Tail Expectation)
Identify one advantage and one disadvantage of quantile methods.
- Advantage: Satisfies disclosure requirements regarding confidence level
- Disadvantage: May introduce spurious accuracy if misrepresented
What is the relationship between the Risk Adjustment and the Aggregate Risk Capital (ARC)?
RA increases the ARC.
the RA for reinsurance held will either increase the reinsurance contract asset or reduce reinsurance contract liability.
In reinsurance reserve analysis, which two bases should be analyzed?
- Gross
- Net
What is proportional scaling in the context of reinsurance held?
Use the same percentage of FCFs for the ceded RA as for the direct RA.
Why might ceded losses for catastrophe reinsurance require a separate risk adjustment analysis from an entity’s direct losses?
Catastrophe reinsurance covers low-frequency, high-severity events
A standard quantile method may produce a risk adjustment that is too small or even 0.
Describe a method for calculating a risk adjustment for ceded losses related to catastrophe reinsurance and high percentile events.
Use a cost-of-capital method with an assumption for required capital set at a higher percentile
This captures compensation required at higher levels of the treaty.
What are the two different levels at which risk adjustment can be calculated?
- Unit of account level (insurance contract or group of insurance contracts)
- Aggregate level
What is the difference between unit of account level and aggregate level in calculating risk adjustment?
Unit of account level calculates RA on a granular level, while aggregate level calculates a single RA for all contracts.
For groups with less skewed distributions, which method can be used under a unit of account approach?
Use VaR (Value at Risk)
VaR is a quantile method.
For groups with highly skewed distributions, which methods can be used under a unit of account approach?
- Cost of capital method
- Margins
Under an aggregate approach, what are the primary methods for calculating risk adjustment?
- Quantile methods
- Cost-of-capital method
What is the IFRS 17 disclosure requirement regarding risk adjustment?
Must disclose a confidence interval for the risk adjustment
This is for benchmarking against other entities.
How do quantile methods affect the confidence interval for risk adjustment?
Quantile methods provide a confidence interval around the risk adjustment automatically.
What is the basic concept behind the simplified cost-of-capital approach for calculating risk adjustment?
Target profit margin is allocated between reserve risk, underwriting risk, and other risks that are not relevant to the RA.
What are the components of insurance contract liabilities under IFRS 17?
- Liability for Incurred Claims (LIC)
- Liability for Remaining Claims (LRC)
How is the risk adjustment for LIC calculated?
RA for LIC = (expired premium) x (profit margin) x (capital allocation for reserve risk)
RA starts at (expired premium) x 10% x 30%.
How is the risk adjustment for LRC calculated?
RA for LRC = premium x (profit margin) x [(capital allocation for U/W risk) + (capital allocation for reserve risk)]
RA for LRC = premium x 10% x [50% + 30%].
What is a disadvantage of the simplified cost-of-capital approach?
The target profit margin may vary by portfolio or group.
