assessing sources of funding for insurance risk based capital · assessing sources of funding for...
TRANSCRIPT
Assessing Sources of
Funding for Insurance
Risk Based Capital
Louis Lee
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Session Number: (ex. MBR4)
AGENDA for Today
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
1. Motivations of Capital Needs
2. Practical Risk Based Capital Funding Options
3. Types of Reinsurance Solutions
4. Worked Example
AGENDA
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
1. Motivations of Capital Needs
2. Practical Risk Based Capital Funding Options
3. Types of Reinsurance Solutions
4. Worked Example
MOTIVATIONS OF CAPITAL NEEDS
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Strain from New Business growth
Efficient use of Existing Capital
Short-term Volatility in Asset Returns
Earnings volatility, volatility from catastrophic events
Rating Agency requirement
Changes in Regulatory Capital requirements and Accounting
standards
INSURANCE GROWTH IN ASIA
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Strain from New Business growth
0
100
200
300
400
500
600
700
800
China Rest of World
Latin America, Carribean
Asia ex Japan, China
Europe ex UK
North America
Japan UK
Pre
miu
ms
(USD
bill
ion
s)
2010 Life Insurance Premiums
Strong Growth Outlook
Weak Growth Outlook
Source: Swiss Re Sigma
ASSET RETURN VOLATILITY SINCE JUNE 2011
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Short-term Volatility in Asset Returns
-25%
-20%
-15%
-10%
-5%
0%
5%
10%
Jun-11 Jul-11 Aug-11 Sep-11 Oct-11 Nov-11 Dec-11 Jan-12 Feb-12
Equity Index Movments since June 2011
US UK Hong Kong Korea Taiwan Japan China
Source: Yahoo! Finance
Most Asian markets not fully recovered
REGULATORY CONDITIONS IN ASIA
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Current Solvency standard
Commentary Appetite for Solvency II
China Solvency I framework
Conservative reserving requirements and capital factors for solvency calculations relative to market conditions Restrictions of sub-ordinated debt funding Limitation on foreign JV’s ownership at <50%
Discussions of Solvency II
Japan RBC framework Tightening of risk factors in 2012^ Expected drop in solvency ratios for 400-500%
Pursuing Solvency II or equivalent
Korea RBC framework RBC framework in 2011 had increased emphasis on ALM and duration matching In 2012, Insurance risk factors split into sub-products
Monitoring Solvency II
Hong Kong Solvency I framework
Impact of low interest rates on reserves, impacting solvency
Not focused
^ Restricted use and inclusion of statutory reserves; sub-ordinated debt; deferred tax assets; and future earnings in solvency margin. Tightening of risk measurements; changes to interest rate and asset management risk factors; risk coefficients based on market data and raising confidence level from 90% to 95%
REGULATORY CONDITIONS IN ASIA
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Current Solvency standard
Commentary Appetite for Solvency II
India Solvency I framework
Limitation on foreign JV’s ownership at 26% IPO’s still delayed
No keen interest to implement Solvency II
Taiwan RBC framework (since 2003)
Recent developments include: Relaxation of marked-to-market assets value Restriction of launching new products if solvency <200%
Monitoring European implementation
Singapore RBC framework (since 2005)
Monitoring Solvency II
Malaysia RBC framework (since 2009)
RBC guidelines for Takaful operators Monitoring Solvency II
Thailand RBC framework (implemented 2011)
Increase minimum solvency ratio from 125% to 140% in 2013
Not focused
Indonesia RBC framework (since 2005)
Not focused
AGENDA
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
1. Motivations of Capital Needs
2. Practical Risk Based Capital Funding Options
3. Types of Reinsurance Solutions
4. Worked Example
CAPITAL FUNDING OPTIONS
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Equity Raising
Injection of Capital from Parent Company
Debt Issuance (including Sub-ordinated Debt)
Reinsurance
CAPITAL FUNDING OPTIONS
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Equity Debt Reinsurance
Relative cost High Medium Low to High
Sensitivity to market conditions High High Medium
Limits on RBC Credit None Capped Varies
Tax deductible? No Yes Yes
Fast to arrange No No Yes
RECENT and PENDING EQUITY ISSUANCE IN ASIA
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Company Listed in… IPO Size (USD) IPO Date
New China Life China/Hong Kong $2bn Dec 2011
AIA Hong Kong $20.5bn Oct 2010
Samsung Life Korea $4.4bn May 2010
Dai-ichi Life Japan $11.2bn Apr 2010
Korea Life Korea $1.5bn Mar 2010
PICC China $0.8bn Pending 2012
Mirae Asset Life Korea $0.5bn Pending 2012
Taikang Life China $3-4bn Pending soon
SUB-ORDINATED DEBT
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Sub-Ordinated Debt Constraint in China (as of Oct 2011): Subject to CIRC Guidelines
Maximum funding of 50% of prior year Net Asset Value level (down from 100%) Three year operating track record required Required solvency margin coverage above 100% to issue
and insufficient capacity in domestic corporate bond market CIRC committed to supporting Yuan issuance from HK
but still affordable at 5.5% to 5.8% yields achieved for 2011 issuance
Source: Barclays
Global BBB and CDS spreads – May 2007 to Mar 2012
EUROZONE INSURANCE STRESS – Volatile Sovereign Debt
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Impact of volatile sovereign spreads within Eurozone has a mixed impact within the sector depending on degree of asset leverage and policyholder participation
0.0
2.0
4.0
6.0
8.0
Germany France Belgium Spain Italy
Eurozone Market Yields(5 yr govt bonds)
30-Jun 28-Nov 3-Apr
Source: Wall Street Journal
REINSURANCE FUNDING DYNAMICS
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Global Reinsurers are cost effective sources of RBC because: Global reinsurers typically price and assess risk according to an internal economic
capital approach that aims for consistent risk decisions across markets, products and reinsurance structures, while also taking account of rating agency capital model implications and statutory capital implications.
As market participants, reinsurers are very familiar with insurance product risk/reward trade-offs. RBC funded through a reinsurance program can be highly cost effective as reinsurers can quickly analyze and understand the detailed insurance risks arising.
Global reinsurers are generally well capitalized and have a cost of capital that benefits from high diversification (lower volatility of results) and generally less exposure to interest rate risk than their clients.
But most global reinsurers are composites and exposed to additional volatility from extreme P&C events. This is mitigated by strong control of the accumulation of exposures accepted and securing protection from retrocession partners and the capital markets.
Execution costs of implementing a reinsurance program are typically not material.
CRITICAL FACTORS IN IMPLEMENTING A CUSTOMISED
REINSURANCE PROGRAM
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
RBC funding projects often have competing objectives understand the key objectives to be delivered on and then run a process that takes account of likely trade-offs factored in
from the beginning
Some typical competing objectives to work through Cost effective source of RBC funding
Run a broadbased auction process with multiple phases of negotiation Favor innovation and high levels of customization Start the process well before the funding deadline Ensure relevant high quality data that is well organized is available to
reinsurer
Rapid implementation deadline Run a focused process with a shortlist of qualified vendors Avoid innovation, only adopt “safe harbor” structures with known
precedents
CRITICAL FACTORS IN IMPLEMENTING A CUSTOMISED
REINSURANCE PROGRAM
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Ensure compliance with regulator requirements Limit the level of innovation attempted Follow the rules
Flexible structure to adapt to changing circumstances
=> Ensure structure has optionality even if pricetag is higher (eg having variable early termination rights, right to include future new
business, event triggers for termination etc)
Limited team resources available
Be decisive on vendor selection, shortlisting of acceptable program structures, clear internal Go/No Go decision points
Ensure C suite buy in across Finance, Actuarial, Tax, Risk Management, Compliance, Operations
AGENDA
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
1. Motivations of Capital Needs
2. Practical Risk Based Capital Funding Options
3. Types of Reinsurance Solutions
4. Worked Example
TYPES OF REINSURANCE TRANSACTIONS
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Quota share of block of business (inforce and/or new business)
Monetize Embedded Value
Upfront financing solutions
Modified Coinsurance
Quota Share
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Can be achieved by reinsuring YRT risk premiums Optimal relief by reinsuring statutory capital intensive products Level of risk transfer is flexible depending on structure
Insurance Company Reinsurer
Reinsurance Premiums Reinsurance Admin Fee
Reinsurance Commissions Reinsurance Claims Profit Commission
% Quota Share Agreement
Ins Risk
Capital
Monetize Embedded Value
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Accelerate profits for the block of business Immediate release of free surplus and insurance risk capital, for the life of
the portfolio Maximum risk transfer
0
20
40
60
80
100
120
Cashflows before reinsurance
Transfer Reinsurer
Payment of Embedded Value
Statutory required capital for this block goes to zero
Financing Solutions
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Provides liquidity for new business strain Optimize earnings position of the block of business Achieves capital relief from increased cash position and reduction in
insurance risk required capital
-60
-40
-20
0
20
40
60
80
100
-60
-40
-20
0
20
40
60
80
100
Before Reinsurance After Reinsurance
Available Capital Required Capital
Modified Coinsurance
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Achieves reserves relief without the need to transfer reserves Statutory capital (in most jurisdictions, % of reserves and NAR) released Optional initial ceding commission as additional funding
50%
50%
Reserves
Statutory Capital
Released
Reinsurer
Reserves Transfer
Deposited back to Insurer Optional ceding commission
AGENDA
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
1. Motivations of Capital Needs
2. Practical Risk Based Capital Funding Options
3. Types of Reinsurance Solutions
4. Worked Example
Modified Coinsurance – Portfolio Assumptions
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Company ABC sells UL-type product Single premium (plan to sell 1,000 M next year) Death benefit = 10 times single premium payment + fund value; Surrender (lapse) benefit = Fund value
Product charges and best estimate assumptions Fund charges = 5% per year, no surrender charge; Mortality rate = 5 ‰, no lapse, Investment income = 10%
Company ABC key information Raised 100M through IPO, no debt, no intangible asset; Field force commission = 10%, payable in first year; Administrative expenses = 0.5% per year.
Reinsurer XYZ key information Has 100M of available capital; No expense.
Regulatory environment No tax Required capital = C2 (0.1‰ x NAR) + C3 (3% x Reserves)
Before Reinsurance
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
P & L
ABC company XYZ Reinsurer
Year 1 Year 2 Year 3 Year 1 Year 2 Year 3
Revenues
Premiums 1,000 0 0 0 0 0
Investment income 10 101 110 10 11 12
Allowance + ModCo adj. 0 0 0 0 0 0
Total 1,010 101 110 10 11 12
Benefits
Claims 0 -5 -5 0 0 0
Reserves -1,000 -50 -53 0 0 0
ModCo adjustment 0 0 0 0 0 0
Expenses/Commissions -100 -5 -5 0 0 0
Total -1,100 -60 -63 0 0 0
Total P&L -90 41 47 10 11 12
* Sums may be off +/- 1 because of roundings.
Note: figures for illustrations purposes only. Accounting treatment of modco transactions vary by jurisdiction.
Before Reinsurance
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Balance sheet
ABC company XYZ Reinsurer
Year 0 Year 1 Year 2 Year 3 Year 0 Year 1 Year 2 Year 3
Assets
Bonds 100 1,010 1,101 1,201 100 110 121 133
Account receivable 0 0 0 0 0 0 0 0
Total 100 1,010 1,101 1,201 100 110 121 133
Liabilities & Capital
Reserves 0 1,000 1,050 1,103 0 0 0 0
Account payable 0 0 0 0 0 0 0 0
Surplus 100 10 51 98 100 110 121 133
Total 100 1,010 1,101 1,201 100 110 121 133
Solvency position
Required capital 0 31 33 34 0 0 0 0
Solvency ratio n/a 32% 157% 289% n/a n/a n/a n/a
* Sums may be off +/- 1 because of roundings.
Note: figures for illustrations purposes only. Accounting treatment of modco transactions vary by jurisdiction.
Before Reinsurance
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Cash flow statement
ABC company XYZ Reinsurer
Year 1 Year 2 Year 3 Year 1 Year 2 Year 3
Cash (beginning of year) 100 1,010 1,101 100 110 121
+ Premiums 1,000 0 0 0 0 0
+ Investment income 10 101 110 10 11 12
- Claims 0 -5 -5 0 0 0
- Expenses/Commissions -100 -5 -5 0 0 0
+ TRANSFER 0 0 0 0 0 0
Cash (beginning of year) 1,010 1,101 1,201 110 121 133
* Sums may be off +/- 1 because of roundings.
Note: figures for illustrations purposes only. Accounting treatment of modco transactions vary by jurisdiction.
Modified Coinsurance Structure
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
50% Modified Coinsurance
Risks are shared 50%/50%
Reinsurance allowance = ½ Cedant expenses
Assets/Reserves are not transferred to Reinsurer
ModCo adjustment = Ending reserves – Beginning reserves * (1+ModCo interest)
ModCo interest = Investment income on assets backing reserves
After Reinsurance (with Modified Coinsurance)
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
P & L
ABC company XYZ Reinsurer
Year 1 Year 2 Year 3 Year 1 Year 2 Year 3
Revenues
Premiums 500 0 0 500 0 0
Investment income 10 106 114 10 6 9
Allowance + ModCo adj. 550 -23 -24 0 0 0
Total 1,060 84 90 510 6 9
Benefits
Claims 0 -3 -3 0 -3 -3
Reserve Increase -1,000 -50 -53 0 0 0
ModCo adjustment 0 0 0 -500 25 26
Expenses/Commissions -100 -5 -5 -50 -3 -3
Total -1,100 -58 -60 -550 20 21
Total P&L -40 26 30 -40 26 30
* Sums may be off +/- 1 because of roundings.
Note: figures for illustrations purposes only. Accounting treatment of modco transactions vary by jurisdiction.
Modco adj = 50% of (Reserve increase + Expenses + Inv Income on prior year reserves)
After Reinsurance (with Modified Coinsurance)
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Balance sheet
* Sums may be off +/- 1 because of roundings.
ABC company XYZ Reinsurer
Year 0 Year 1 Year 2 Year 3 Year 0 Year 1 Year 2 Year 3
Assets
Bonds 100 1,060 1,136 1,218 100 60 86 116
Account receivable 0 0 0 0 0 0 0 0
Total 100 1,060 1,136 1,218 100 60 86 116
Liabilities & Capital
Reserves 0 1,000 1,050 1,103 0 0 0 0
Account payable 0 0 0 0 0 0 0 0
Surplus 100 60 86 116 100 60 86 116
Total 100 1,060 1,136 1,218 100 60 86 116
Solvency position
Required capital 0 16 16 17 0 16 16 17
Solvency ratio n/a 387% 529% 679% n/a 387% 529% 679%
Note: figures for illustrations purposes only. Accounting treatment of modco transactions vary by jurisdiction.
After Reinsurance (with Modified Coinsurance)
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Cash flow statement
* Sums may be off +/- 1 because of roundings.
ABC company XYZ Reinsurer
Year 1 Year 2 Year 3 Year 1 Year 2 Year 3
Cash (beginning of year) 100 1,060 1,136 100 60 86
+ Premiums 1,000 0 0 0 0 0
+ Investment income 10 106 114 10 6 9
- Claims 0 -5 -5 0 0 0
- Expenses/Commissions -100 -5 -5 0 0 0
+ TRANSFER 50 -20 -21 -50 20 21
Cash (beginning of year) 1,060 1,136 1,218 60 86 116
Note: figures for illustrations purposes only. Accounting treatment of modco transactions vary by jurisdiction.
THANK YOU
Joint IACA, IAAHS and PBSS Colloquium in Hong Kong www.actuaries.org/HongKong2012/
Contact Details: Louis Lee +852 2588 7138 [email protected]