Pillar 2

Question 1

What are the 3 core rules of Pillar 2?

Answer 1

1. Methodology of capital resource assessment
2. Basis should be 99.5% one year survival probability over 1 year (0.5% ruin) or equivalent over longer term
3. Documentation adequacy of submission

Question 2

Where should the ICA be considered?

Answer 2

Financial reporting and ongoing business decisions

e. g.
1. pricing
2. product range
3. inv strat
4. m and a

Question 3

What risks should be assessed under ICA?

Answer 3

As with Pillar 1:
Market
Interest
Credit
Reinsurance exposure
Persistency
Plus:
Mortality
Morbidity
Expense risk
Pension scheme risk
Liquidity risk
Group risk
Ops risk

Question 4

How should the risks be tested under ICA, what are the problems?

Answer 4

Stress and scenario testing

Often limited data for extreme events e.g. ops risk

Question 5

How are assets valued in ICA?

Answer 5

Market to market (like pillar 1)

No admissibility limits

Question 6

How are math res calculated under ICA?

Answer 6

Realistic basis ie. like pillar 1 peak 2
Market consistent and so stochastic
Credit allowed for present value of future profits on in-force business, this may mean more free assets (lower liabs) than under pillar 1

Question 7

What is the technique to calculate the 99.5th percentile?

Answer 7

Method 1:

1. Do individual 1 in 200 stress tests to each risk factor over 1 year period (allow for 1 year NB or closure to NB)
2. Recalculate the new free surplus at end
3. This gives your capital requirement

Method 2 (run-off method):
1. Look at amount of capital needed at start to ensure firm can cover liabs until last policy run off, allowing for suitable stresses in risk factors

Question 8

How do you allow for diversification benefits between the different risks in pillar 2?

Answer 8

Need to put through correlation matrices

Note that correlations in extreme events like these stresses may be different than normal

Question 9

Why do you need to allow for non-linearity in individual risks?

Answer 9

The capital requirement for a subset of events happening at the same time with probability 0.995 may be higher than the sum of all different 1 in 200 scenarios capital requirements.

Question 10

What stochastic asset model would be used in ICA, what is particularyl special about it? How would it be calibrated?

Answer 10

Real world ESG
#arbitrage free
calibrate using past parameters but advanced techniques in the tail

Question 11

What value is the ICG if PRA satisfied/not satisfied?

Answer 11

ICG=ICA capital req

ICG>ICA cap req

Question 12

What can firms, who are ready to do SII, do with ICA?

Answer 12

ICAS+