Wednesday, 18 December 2013

PRA on "good" and "bad" documentation for IMAP - restart or refresh?

As an welcome aside from the PRA's activity day on the 12th, they also delivered on a promise to provide examples of what constitutes "good" and "bad" documentation in the context of the internal model approval process (IMAP). Bearing in mind it has been quite some time since the PRA publicly pronounced on the matter - indeed, they were called something else the last time they did - the industry welcomed this in like a lottery-winning prodigal son.

Bad documentation
- reform or execute?
There have certainly been enough apocryphal tales spewed out by the industry over the last couple of years to suggest that the production of documentation to support participation in IMAP had transformed from a small cottage industry into something of a palatial Georgian Mansion house with a granny annex.

Whether or not this kind of advice is therefore timely enough to save the Solvency II Programmes of the UK from using documentation in their revitalised IMAP preparations that is neither good for man nor beast is another thing, bearing in mind there is three years worth of accumulated flotsam currently kicking around the servers of UK insurers which, given this message, will need to be revisited as a matter of urgency.

Regardless, as the UK still appear to hold the whip hand in EIOPA's model sub-committee, the PRA's views on model documentation are relevant to readers across the continent, so the document is well worth a read for anyone in pre-application.

I took the following from it;
  • They have 3 principles of "good documentation" - accessibility, evidence and quality control
  • "It is helpful to have a clear separation of policy, methodology and results"
  • The document refers throughout to giving consideration to "the reader". Feels a little disingenuous if they mean "the PRA", and after reading their document a couple of times, I can't imagine who else they have in mind.
  • Following on from that point, a reference to a bad example suggests that "...the author is not thinking carefully about the audience" - it is equally fair to suggest that the author may be assuming a level of technical/commercial knowledge at the PRA end which is lacking?
  • The PRA are evidently not happy to have to "seek clarification" on matters, which suggests the time allocated to assessments is tightly planned, or indeed the level of technical knowledge held by the assessors is limited.
  • Interested to know if these principles hold firm for Standard Formula firms if viewed conversely e.g. does paperwork for the justification to not use an internal model need to be of a similar standard?
  • The reiteration that the PRA "...will rely, in large part, on the submitted documents" when assessing the model - just in case your friendly executive committee reckon they can talk their way in!
  • A lofty aim to improve "accessibility" of documentation, by having levels covering; executive summaries; model reviewer/validator level info; and model user/operator level technical documentation. The PRA only want the first two levels as a matter of course, which would suggest that procedures and technical documentation should be used as supporting evidence only.
  • Tabling up references to the Directive and Implementing Measures within documents is viewed favourably.
  • Their "useful rule of thumb" feels instinctively unwieldy - they suggest better documents contain one-third 'what has been done' with the rest covering 'why and how'. That said, expert judgements are clearly not being evidenced anywhere near the level desired.
  • A convoluted and potentially frightening reference to "self-validation" testing, which the PRA view favourably, but which seems to point towards a preference to see suites of documentary evidence for each assumption applied in the modelling process. 
  • To conclude, readers are redirected to Julian Adams's letters from  mid- 2012 (here and here) - important to note that this guidance remains relevant, regardless of the passing of time.
I suspect that most model applicants will find they have re-work to do off the back of this, both with the pen and with the sickle. Expert judgement and assumptions documentation remain the unquenchable thirst though, so one's best endeavours would be well spent in that field in early 2014.

Tuesday, 17 December 2013

Governance flaws in UK financial institutions - complacency or one-offs?

Some very interesting bits released over the weekend which should prick the ears of the UK's banking and insurance entities like a corporate governance-driven piercing gun, hot off the back of last month's Co-operative Group scandal.

Governance structures
- unchallenged by Risk for too long?
Over at RSA, one of the UK's most venerable General Insurance, a house of horrors-style drama appears to be emerging. Starting with what looked like a serious, yet relatively modest, localised valuation issue over in Ireland has developed in short order into the straw which has broken the camel's back with regards to the tenure of the Chief Executive of the entire group - all off the back of a routine audit, according to one source, and perhaps not coincidentally breaking formally as a story one day after the announcement of enormous premium hikes in the country.

Astonishingly, one of the three men suspended at the Irish unit is also one of the biggest hitters in their national industry, being the current president of the Irish Insurance Federation. He was quoted in August thus (my emphasis);
I’m very optimistic about the future. The Irish Insurance Industry is robust, well capitalised, making a significant contribution to the economy and most importantly, delivering for customers.
While it is fair to say that the knives were already out for the Group CEO, who has presided over general bad news over the last year or so (this year's profit warnings one and two for example), to actually see a FTSE 100 insurer crippled to the point of fire sales to plug capital holes by such a matter is pretty remarkable, even if the geographical source of the pain is less surprising after Quinn went down actuary-less a couple of years back.

What's more, the interim CEO (who is pulling off the much-maligned Chairman/CEO double act for now, though was Non-Exec) has sanctioned a root and branch review of governance arrangements in the firm across all markets (cited here from an analyst call), quite an undertaking in itself bearing in mind its geographical spread.

It made me revisit the published feedback to EIOPA's preparatory guidance, where I had remembered that the feedback received from RSA was pretty caustic with regards to the appropriateness of EIOPA's guidance where it seemingly went above and beyond the Directive and Implementing Measures.

Pointedly in the context of this particular failure of their internal controls, they fed back extensively on the Fit and Proper requirements (p237), most of which centred around 'less is more', and emphasised the administrative burden such activity already causes. This is supplemented on p339 with a piece against the rotation of internal audit teams, both of which look discomforting in hindsight!

Friday, 13 December 2013

PRA briefing on Solvency II, IMAP and application of EIOPA's preparatory guidance

Santa's 'Omnibus 3' joke was not so
well received... 
Santa obviously couldn't wait to put a smile on the faces of the insurance industry this year, so his little helpers at the PRA delivered an industry briefing yesterday, and subsequently released a bucketload of materials which aimed to help give everyone's still-defrosting Solvency II programmes an early steer as to expectations over the next two years.

The main document released was a supervisory statement (along with a video explaining what a 'supervisory statement is!), which followed on from a recent consultation on how the PRA plan to apply EIOPA's preparatory guidelines.

That blog post is effectively still relevant, as virtually nothing changed as a result of the consultation which, at 18 responses, was appallingly participated in, and is perhaps symptomatic of the malaise with which the topic has been infected by during 2013.

The three areas where the PRA have provided specific clarifications following the consultation were;
  • Sys Gov Guideline 30 (Securitised Instruments) - note that they will tell EIOPA that it is badly drafted, but that ultimately firms should focus on intended outcomes of it if in doubt 
  • Sys Gov Guideline 41 (Actuarial Function) - confirm that the function will need to provide opinions on the reinsurance arrangements and underwriting policies during transition
  • Reporting - Confirm that submissions in XBRL are expected by June 2015, but give some wriggle room should EIOPA not fix the templates!
Other than that, it is "as you were".

Julian Adams took time off from his new YouTube career to speak at the event as well - the speech, lovingly titled "A Turning Point", has been published, and from a UK Solvency II Programme perspective. I took the following from it;

General Solvency II
  • "Certainty" on timetable, so while he appreciates that firms "downsized their Solvency II programmes", " is the time to reassess priorities" - so go tell your CFOs you need another cheque!
  • "Expects to have discussions with firms" on the effect of the agreed matching adjustment on capital and technical provisions.
  • On the 16-year transition to full Solvency II technical provisions, they are pleased " have the safeguard of the transitional floor" which will keep the old regime relevant for years to come
  • The Commission "...hope to have a stable version [of delegated acts] ready by March", though won't be publishing them until summer. Does that mean we'll get another leak, like in October 2011?
  • " is important that firms stay appraised of developments in delegated acts, implementing technical standards and guidance to be issued by the Commission and EIOPA" - PRA seemingly distancing themselves as an influencer at this point, and positioning itself as an administrator
  • To that end, the PRA Handbook will follow "intelligent copy-out" rules, so the only elaboration we should expect in future outside of materials produced in the low countries will be in the form of Supervisory Statements (see above!)
  • Some technical actuarial papers will be released by the PRA in the New Year 
  • Reminder for standard formula firms that they will need to make sure their SCR calculation is suitable, including consideration of USPs/PIM
Specific to the PRA's application of EIOPA Preparatory Guidance
  • "...emphasis is on preparations for Solvency II and not its early implementation"
  • "We are not gold plating any of the guidelines" - no definition of what "gold plating" means though, which would have been useful.
  • "[Proportionality] does not mean that firms can select which requirements to comply with or not"
  • Expect incremental improvement in the quality of ORSA Supervisory Reports submitted between 2014 and 2015
  • Industry Working Group on Reporting has been set up, as there is evidently enough discord within the UK at the prospect of parallel running numbers to justify a PRA/Industry jam session. That said, July 2015 remains the PRA expectation for XBRL reporting to come in from firms within the thresholds
  • For IMAP, "it is critical that firms keep to their allocated submission slot" - if you miss, you "...will join the end of the queue", which might help free up some purse strings!
  • " longer possible" to offer any flexibility to firms in the IMAP space. 

Tuesday, 10 December 2013

ICAEW on "overarching principles of corporate governance" - how much is too much?

I hadn't got around to this thought-leadership document from the ICAEW on corporate governance, despite their kind tweet asking for my thoughts, due to the welter of Solvency II activity that started from September.

The premise behind their document seems to be that corporate governance codes are perhaps a touch unwieldy these days, and might benefit from some Google-style "Do No Evil" overarching principles which even the sneakiest, mealiest-mouthed Board member would struggle to justify their (mis)conduct in the context of.

In general, the word 'overarching' makes me want to pull my thinning tufts out. I'm not much of a compliance-ferret, but the thought of Board conduct being so misguided by the corporate governance codes in place in developed countries that we need to refine it another notch is one I couldn't entertain. Certainly, given the importance of holding these people to account, and the level of education and experience a great many of them will have attained, I am inclined to think that 'more is more' rather than 'less'.

The ICAEW paper comes up with 5 overaching principles of corporate governance, centred around;
  1. Leadership
  2. Capability
  3. Accountability
  4. Sustainability 
  5. Integrity
The following parts jumped out at me;
  • That overarching principles should be "aspirational and credible" - feels counter-intuitive.
  • That overarching principles should "think beyond the letter of laws and regulations" - why should they? Laws and regulations, regardless of how badly drafted, capture the kind of corporate recklessness that we would all gladly see consigned to history. Punishment seems to be a bigger issue (i.e. why aren't white collar criminals thrown to the dogs, or captains of industry who are hoist by their own petard immediately banned for life?)
  • The thought of companies explaining links (or gaps) between overarching principles and their actual actions is almost too grubby to contemplate, giving leaders an undeserved shade of grey to support bad governance ("...well, in principle...")
  • That overarching principles should be "...easy for boards and stakeholders to understand". Why should a Board job be easy? Why do people of such talent, education, breeding (?), etc. need to have the words "Don't be an idiot" written for them in crayon? Briefing onesself on the requirements of a national corporate governance code is only beyond a Board member who cannot be ar bothered.
  • That the current UK code, at 18 principles and 28 supporting principles is "...too detailed for most people to remember". That would include me! However, it's only a click away, and is certainly not justification for further refinement.
I definitely sympathise with anyone who has to keep on top of corporate governance code development, particularly in the EU, where pan-European angles bubble up with regularity (here and here for example). That said, just do your job and comply with them!

Given that certain organisational bodies cannot be held to similar standards, yet may be equally significant in the case of UK/Planet Earth plc (Government departments, Private Equity firms, Mutuals/Friendly Societies), I would certainly find it hard to transplant such a layer onto existing requirements for listed entities. If anything, these overrarching principles could be targeted towards the general public in order to help laymen and women understand what areas our current codes are focused on, and why.

I certainly don't see the overarching principles as aiding leaders of business in any other respect that providing another layer of excuse confetti when they need to explain away the next slew of avaricious corporate conduct. I wonder who it's going to be next?