Table of content
- Introduction ……………………………………………………………………………………………………… .
- Solvency II ………………………………………………………………………………………………………… .
- Solvency II in comparing with ICA
- General characteristics of solvency II regulations……………………………………………… .
- Similarities between Solvency II and ICA…………………………………………………..
- Differences between Solvency II and ICA…………………………………………………..
- Unit of measurement linked merchandises under Solvency II
- Technical provisions………………………………………………………………………………… .
solvency two in comparing with ICA
General characteristics of solvency two ordinances
Solvency II affects the corporates’ ability to fund and extenuate fiscal hazard negatively. It is created with the purpose of heightening and supplying more consistent degree of protection for policyholders and promoting the safety and soundness of insurance companies throughout Europe. ( Regulations under solvency two pdf )
- Solvency II has a ‘maximal harmonising’ regulative model. Under this, a individual set of demands will be applied systematically across Europe. A consistent model would advance more competition across Europe.
- It incorporates a ‘entire balance sheet’ ( Figure ) attack. This includes the hazards to liabilities, assets and their interaction. This needs to be considered in puting capital demands.
- It will follow the ‘three pillar’ ( figure ) attack. This system is intended to supply inducements to insurance companies to mensurate and pull off their hazard state of affairs. ( ica and solvency pdf )
- General characteristics of the Solvency II ordinances:
- A advanced and risk-based attack in puting higher capital demands to enable timely intercession ( 0_solvencyIMP pdf ) .
- Market-consistent rating of assets and liabilities.
- Strengthening market subject through company revelations.
- Taking full history of the costs of options and warrants. ( villet_IMP pdf ) .
similaties between SOlvency two and ica
Solvency II is a risk-based regulative model whereas ICA is the firm’s ain appraisal of its capital demands based on the given hazard exposures.
- Both are defined as 99.5 % assurance degree over one twelvemonth that assets will be equal or greater than liabilities.
- They follow a three pillar attack? ?
- They have a supervisory reappraisal procedure. Solvency II follows a double supervisory intercession though the creative activity of a Minimum Capital Requirement and a Solvency Capital Requirement ( SCR ) . Under solvency II, regulative intercession is when the capital falls below the Solvency Capital Requirement ( SCR ) . Under, ICA, regulative intercession is when it falls below the Individual Capital Guidance ( ICG ) .
- ICA is perchance really similar to internal theoretical account SCR in Solvency II.
( villet_IMP pdf )
differences between SOlvency two and ica
Much of the basis for Solvency II has laid down by the ICA and it has proven to be a utile hazard direction platform. However, there are some countries of Solvency II that impose different criterions. Solvency II differs from ICA in the undermentioned ways:
- It includes hazard borders in add-on to the best estimation militias.
- It requires unwraping studies and demands on actuarial work and opinions.
- It requires market consistent rating of liabilities utilizing cost of capital method instead than the percentile method.
- It incorporates the plus localization of function regulations under which the assets in relation to the EU insurance proficient militias must be held in the EU itself.
- Under Solvency II Pillar 1, ain financess are separated into 3 grades based on the quality of capital. This is non the instance in ICA. ( http: //www.theactuary.com/archive/old-articles/part-3/solvency-ii/ )
- Solvency II takes into history the European Union ( EU ) whereas ICA is merely for the UK.
- The cardinal hazard parametric quantities ( i.e. volatility, output, correlativity matrices, and recognition defaults ) in the standard expression used under Solvency II are specified by the regulator and calibrated to industry experience even though some recognition can be given to one’s ain experience through credibleness factors. While this is non the instance under ICA.
- ICA follows an internal risk-based capital theoretical account and there is no standard expression but the Financial Services Authority ( FSA ) specifies the regulations and ordinances. But, Solvency II gives the option to utilize both, a standard expression ( SCR expression ) , internal theoretical account or partial theoretical account.
- The construct of ‘Own Risk and Solvency Assessment’ ( ORSA ) is now embedded in Solvency II. It is a uninterrupted procedure and is determined by the firms’ “own” short and long term hazards. ORSA will assist the houses to pull off and understand some hazards ( such as ; cyber hazard, hazards faced due to long term effects of clime alteration which can non be observed over the clip span of a twelvemonth ) that they are exposed to. ( ordinances under solvency two pdf AND vol5_orsa pdf )
unit linked merchandise under solvency two
A unit linked contract represents the policyholder with expressed charges of assorted sorts from which the insurance company must run into its disbursals and do net income. It directs the premiums less charges into investing financess of the policyholder’s pick whose additions and losingss the policyholder portions explicitly.
The new unit linked merchandise that the company is establishing demands to be accommodated under Solvency II. From the given construction of the new unit linked merchandise, it is apparent that there is no investing hazard for us and disbursals are expressed to the policyholder.
In order to keep to protect the policyholders with unit linked and index linked life insurance merchandises, the FSA proposed regulations taking history of new European demands for insurance companies. Solvency II directive suggests how the insurers’ assets, including the unit linked and index linked financess, must be managed which replaces the current FSA attack which merely lists the assets that can be used by the insurance company. ( http: //www.actuarialpost.co.uk/article/fsa-on-solvency-ii-transposition-and-unit-linked-products-1408.htm ) AND ( hypertext transfer protocol: //www.theactuary.com/archive/old-articles/part-4/fsa-moves-to-protect-unit-linked-life-policyholders-under-solvency-ii-/ )
Harmonizing to the recent figures, the UK unit linked long term life sector has assets of ?815bn under direction and an extra ?24bn in index linked policies. Solvency I includes matching of the face value of the liabilities with the same assets, keeping a modesty to cover the excess disbursals and recognizing the Value of In-Force ( VIF ) ( i.e. the future net incomes ) . Whereas Solvency II replaces this regulation and now we merely have to fit the lower Best Estimate Liability ( BEL ) with units and can freely put in VIF. Hence there is a determination which needs to be made on the investing scheme and the possible usage of hazard extenuations ( i.e. derived functions and reinsurance ) maintaining in head our scheme to understate capital, minimise volatility or maximise returns. In other words, unit linked assets need to be matched to the unit linked proficient commissariats alternatively of the face value of the unit linked liabilities. And the surplus of the unit linked assets could be invested in other ways. ( https: //www.barnett-waddingham.co.uk/comment-insight/blog/2015/01/06/unit-linked-business-it-just-keeps-getting-harder/ ) AND ( unit linked solvency two pdf )
proficient commissariats under solvency II
The proficient commissariats form the largest portion on an insurance undertakings’ balance sheet. The ‘prudent individual principle’ ( Article 132 in Solvency II directive ) states that for unit linked contracts, the proficient commissariats with regard to the ( unit-linked ) benefits must be represented every bit closely as possible by those units or by those assets ( in the instance where units are non established ) . Technical commissariats includes the ( rhenium ) insurance undertaking’s Best Estimate Liability ( BEL ) and the hazard border.
Technical commissariats should be calculated systematically with the rating of liabilities and assets along with market consistence and with regard to the international developments in accounting. The value of proficient commissariats should so be consistent with the sum that our company would hold to pay if we transfer its contractual duties and rights to another ( rhenium ) insurance project. It is necessary for us to cipher the expected present value of the insurance liabilities on the footing of our current information and realistic premises, bearing in head fiscal warrants in the insurance contracts. ( Unit linked solvency two PDF ) AND ( solvency_2-consultant…IMPPP pdf )
Premises made in the computation of proficient commissariats include:
- The value of the proficient commissariats should match to the bing sum that the ( rhenium ) insurance projects would hold wage if they transferred their ( rhenium ) insurance duties instantly to another project.
- The computation of proficient commissariats should be consistent, doing usage of the information provided by the fiscal markets and informations available on subventioning hazards ( i.e. market consistence ) .
- We use the Cost-of-Capital rate in finding the cost of supplying the sum of eligible ain financess. And this shall be the same for all the ( rhenium ) insurance projects and would be analysed sporadically.
- Appropriate premises with regard to rising prices should be a incorporates into the hard currency flow projection taking into consideration the type of rising prices the hard currency flows are exposed to ( e.g. Salary rising prices, consumer monetary value rising prices )
- Cancellation premises must be incorporated inexplicit to the premium projections under the bing contracts.
- Risk-free involvement rate term construction should be defined following a unvarying methodological analysis. This construction should be so used to mensurate the clip value of the hard currency flows collectible in each currency.
( Section7-technical commissariats Lloyd’s pdf )
Other elements that need to be taken into history for the computation of proficient commissariats include:
- Expenses incurred in serving reinsurance and insurance duties,
- Time value of money and rising prices ( involves claims and disbursals rising prices ) , and
- All payments made to the donees and policyholders which includes fillips.
( CELEX-32009L0138-en-TXT pdf )
Best Estimate Liability
The BEL is the chance weighted norm of the hereafter hard currency flows sing the clip value of money and utilizing a suited riskless involvement rate term construction. It is based on realistic premises and up-to-date and believable information and can be performed utilizing relevant statistical and actuarial methods. ( Section7-technical commissariats Lloyd’s pdf )
It can be calculated as the discounted value of the hereafter hard currency flows associated with the unit linked concern or as the amount of the face value of the unit linked liabilities in add-on to the present value of the future net incomes ( PVFP ) of the unit linked concern. ( For profitable contracts, PVFP is normally a negative liability ) . ( Unit linked solvency two PDF ) AND ( solvency_2-consultant…IMPPP pdf )
The Best Estimate is to be calculated gross, without any tax write-offs of the sums which can be recovered from the ( rhenium ) insurance contracts. The clip skyline to be considered in the computation of BEL must be the full life-time of the current ( rhenium ) insurance contracts on the rating day of the month.
Sing the new unit linked merchandise, we could sort the information into unit linked fund and non-unit linked ( sterling ) fund.
Unit of measurement linked financess
Non-unit linked financess
BEL = Fund value
BEL = PV ( Future hard currency flows )= PV ( Charges ) – PV ( Expenses )
– PV ( Benefit )
Reason to include hazard border
BEL doesn’t take into history the sensitiveness of the involvement rate and hence the insurance companies may take to fudge this involvement rate hazard of their liabilities by organizing a portfolio of assets which matches the motion in the value of liabilities. BEL doesn’t see the volatility of the premises made and therefore there is a demand to cipher the hazard border. In other words, hazard border is calculated to do certain that the value of the proficient commissariats corresponds to the sum that our house would be expected to necessitate to take over and run into another firm’s undertaking’s duties. This reduces the firm’s volatility of the balance sheet.
Risk border represents the extra sum an insurance house needs to keep to take on the duties of another given insurance house. This implies that the company would still hold adequate assets to safely wind-up and reassign its duties to a 3rd party in a state of affairs where the house had to utilize its free excess and capital. In other words, it is the cost of keeping the extra capital to cover the uncertainness in the rating of the best estimation of the hereafter hard currency flows and its volatility. This construct has been late taken up by the Swiss regulator in their new solvency government and this construct is deriving support from insurance companies in UK and Europe. ( http: //www.theactuary.com/archive/old-articles/part-4/solvency-ii/ ) AND ( hypertext transfer protocol: //www.theactuary.com/features/2012/06/solvency-ii-risk-margin-to-hedge-or-not-to-hedge/ ) AND ( hazard Margin_IMP pdf )
Risk border is calculated per line of concern which involves ciphering the hazard border for the whole concern ( leting for variegation between the lines of concern ) followed by apportioning the border to the lines of concern.
Risk border, under Solvency II, needs to be calculated [ 1 ] utilizing the Cost of Capital attack which involves finding the cost of supplying a fixed sum of eligible ain financess which equals the SCR necessary to back up the business-in-force until the run-off. The rate used to find this cost is called the Cost-of-Capital rate. Low net income is generated when a house invests its solvency capital in hazard free investings. Since the investors demand a certain return which is more than the hazard free rate on all capital, the company makes a cost by keeping this excess sum of the capital. This is viz. the Cost of Capital. ( hazard Margin_IMP pdf ) AND ( hypertext transfer protocol: //www.theactuary.com/features/2012/06/solvency-ii-risk-margin-to-hedge-or-not-to-hedge/ ) AND ( A_-_Revised_technical_Specifications_for_the_solvencyII… . )
( Mention the 5 hazards )
( How to cipher hazard border + expression )
Solvency Capital Requirement ( SCR )
SCR is the sum of financess that the ( rhenium ) insurance are expected to keep in the European Union. It covers the quantifiable hazards that a ( rhenium ) insurance house faces which besides includes non-life underwriting and involves any risk-mitigation techniques. It determines the sum of capital that the house should keep to endorse their hazards. SCR needs to be recalculated at least one time per twelvemonth and it covers the bing every bit good as new concern over a twelvemonth. ( http: //www.investopedia.com/terms/s/solvency-capital-requirement.asp ) AND ( solvency_2_consultation_annex_a_IMPP pdf )
The SCR is set at a degree which ensures that the ( rhenium ) insurance companies hold adequate capital to guarantee that ruin doesn’t occur more frequently than one time in 200 instances i.e. it ensures that they can run into the duties made to the policyholders with a chance of at least 99.5 % over a twelvemonth ( besides referred to as the 99.5 % Value-at-Risk step ) . ( Same as above + Calculating_the_Solvency_Capital_Requirement-1-2 pdf )