Solvency II (Odomirok ch.25)

Question 1

What is Solvency II?

Answer 1

principle-based insurance regulatory system governing insurers in the european union
links required capital to a companies “risk profile”

Question 2

What are the three pillars of Solvency II?

Answer 2

1 - Quantitative Capital Requirements
2 - Governance (AKA supervisory activities)
3 - Transparency (AKA Supervisory reporting & public disclosure)

Question 3

What is the formula for the solvency capital requirement?

Answer 3

Best estimate of liabilities + risk margin + SCR (99.5% VaR)
best estimate of liabilities + risk margin = technical provisions
IFRS Assets - above = Free surplus

Question 4

How is the SCR (Solvency capital req) derived?

Answer 4

99.5% VaR over next 12 months for insurer to meet its obligations to policyholder and beneficiaries

Question 5

What have critics said about the SCR?

Answer 5

not an adequate measure for bearing risk to ultimate settlement
it doesn’t assume you need to hold sufficient capital from inception to settlement without raising capital
overall => “doesnt provide a true fair market value”

Question 6

What are the 3 methods that can be used to derive the SCR?

Answer 6

approved internal model
“standard model”
mix of both

Question 7

What 3 things are needed to make use of an internal model to calculate the SCR?

Answer 7

demonstrated use in running the business
validated by an independent 3rd party
documented appropriately

Question 8

What 2 things does Pillar II provide insurance supervisors with?

Answer 8

tools to identify high-risk companies
power to intervene

Question 9

What are the 3 conditions of Pillar II?

Answer 9

Fitness & propriety
Outsourcing
Internal control

Question 10

What are the 4 functions of Pillar II?

Answer 10

Internal audit
Risk Management
Actuarial
Compliance
“should be allocated in a manner that avoids duplication”

Question 11

What must the internal audit function do?

Answer 11

Produce a report at least annually to the board of directors on any
deficiencies of the internal controls and any shortcomings in compliance with internal policies and procedures.

Question 12

What must the Actuarial function do?

Answer 12

Ensure the reasonability of methods and assumptions used in calculating the technical provisions

providing a look-back analysis of best estimates against experience

provide opinions on the overall underwriting policy and adequacy of
reinsurance arrangements.

Question 13

What must the Risk Management function do?

Answer 13

Monitoring the risk management function and maintaining an
aggregated view.

Ensure the integration of any internal model with the risk
management function.

Question 14

What must the Compliance function do?

Answer 14

Ensure the internal control system is effective to comply with all
applicable laws and regulation, promptly reporting any major compliance issues to the board of directors

Question 15

European Insurance Authority def of ORSA

Answer 15

“The entirety of the processes and procedures employed to identify, assess, monitor, manage, and report the short- and long-term risks a (re) insurance undertaking faces or may face and to determine the own funds necessary to ensure that the undertaking’s overall
solvency needs are met at all times.”

Question 16

What must ORSA contain, at a minimum?

Answer 16

• The overall solvency needs, taking into account the specific risk profile, approved risk tolerance limits and the business strategy of the undertaking
• The compliance with the capital requirements and the requirements regarding technical provisions
• The extent to which the risk profile of the undertaking deviates significantly from the assumptions underlying the SCR, calculated with the standard formula or with its partial or full internal model

Question 17

Briefly describe Pillar 3 (Transparency).

Answer 17

disclosure and reporting of info about capital and regulatory position from Pillars I and II
some quarterly, some annually
purpose => increase market discipline

Question 18

What prompted the NAICs SMI?

Answer 18

‘08 crisis and state regulation of insurance, capital is “walled off” from other entities in the group, wanted closer coordination

Question 19

What are the 6 “windows” in the NAIC SMIs “Windows and Walls” approach?

Answer 19

1. Communication between regulators – enhanced communications between the state insurance regulators within the group
2. Supervisory Colleges – formally incorporate supervisory colleges of international regulators into the NAIC review procedures
3. Access to and collection of information – enhanced access to upstream entities within a group structure including regulated and non-regulated entities
4. Enforcement measures – tools to protect policyholders if violations occur
5. Group capital assessments –group supervision requires a panoramic view of capital needs of the group to be effective
6. Accreditation – state insurance regulators involved in group supervision should be accredited through the NAIC

Question 20

NAIC def of ORSA

Answer 20

an internal assessment…. conducted by [the] insurer of the material and relevant risks identified by the insurer associated with an insurer’s current business plan and the sufficiency of capital
resources to support those risks.”

Question 21

NAICs 2 primary goals for ORSA

Answer 21

1) to foster an effective level of ERM for all insurers where they identify……. all material risks using appropriate techniques
2) provide a group - level perspective on risk and capital, as a supplement to the existing legal entity view

Question 22

What must US insurers do to meet the goals of ORSA?

Answer 22

for those above certain benchmarks for direct + assumed (unaffiliated) wp
(1) => complete process at least annually
(2) => create ORSA summary report to lead state commissioner
(3) => retain the documentation to evidence the efficacy of the ORSA
just one piece of the ERM framework

Question 23

What are the 3 key areas the ORSA summary report should cover?

Answer 23

(1) Desc of Insurers RM framework => how have they integrated key principles
(2) Assessment of risk exposure => high-level summary of quan / qual assessments in normal + stressed environments for all material risks identified in (1) , also include key methods and assumptions
(3) group assessment of risk capital + prospective solvency assessment => key methodologies, assumptions in calculating risk capital, projects future financial position to assess its ability to meet its internally defined risk appetite based on a 3-5 yr business plan

Question 24

What is an actuaries typical involvement in the ORSA?

Answer 24

actuarys that serve as chief risk officer and others that are members of the ERM function typically have ownership of the overall drafting of the ORSA summary report
estimation + monitoring of risk exposure
modeling of groups risk capital adequacy
pricing / reserving can assist ERM in risk ID or modeling / estimation