Friday, 24 January 2014

PRA, BaFin and Disclosure - Grüne with envy...

Without being hypercritical, it occured to me that the PRA appear to be keeping materials and opinions "on the downsie" at a time where perhaps the industry would benefit from their overexposure, and I can't work out why.

A few things triggered that thought over the last week;
It is worth expanding on the last point, bearing in mind what a useful piece of text it is for anyone looking to confirm within their own Programme how best to interpret EIOPA's guidelines. BaFin explicitly state;
  • Insurers should "immediately take the necessary steps" to implement the Preparatory Guidelines.
  • That "undertakings are effectively the target audience" for the Preparatory Guidance, which I am delighted to see acknowledged publicly by such a significant participant.
  • It is up to each insurer to determine the order of their implementation activity prior to 2016.
  • That, for the benefit of the industry, BaFin have carved up the Guidance into 15 blocks, and will provide "additional information and tips" periodically over the next two years.
  • That a special activity for Life Insurers will take place, one suspects in order to help identify the capital shortfalls hinted at at the back end of last year for those with high cost of guarantees.
  • That everyone is expected to participate in the QRT exercise, ignoring the thresholds offered by EIOPA to the NCAs.
  • That they will be translating any EIOPA texts released prior to 2016 in English-only into German.
Whilst it may be a case of thinking das gras ist grüner, it would be easy to envy the German contingent when offered this level of disclosure and certainty in dealing with the preparatory phase. What say you, Moorgate?

Wednesday, 22 January 2014

Model Validation - benchmarks and best practices from the IRM, PRA and Lloyds

Models - seeking validation
Bearing in mind we have passed the 2013 financial year end, and all of the internal modellers amongst us will be trying out their new processes and technology in the production of a balance sheet for the first time, a few very timely pieces of material on internal model validation have been released, which should help anyone who is curious about what their neighbours are up to!

The Institute of Risk Management's rebadged Solvency II Special Interest Group held a get-together in December on IM Validation, and a couple of interesting documents have emerged.

One from a PRA Validation guru is particularly useful for anyone in the IMAP space who has any uncertainty about the PRA's approach to assessing the quality of one's validation processes and reports, covering;
  • The purpose of validation
  • The PRA's approach - Life and GI-specific SME groups
  • An overview of IMAP findings - 40+ reviews conducted to date, and they also state what your evidence "should" demonstrate
  • Their observations - Noting that Validation Reports are generally deficient
  • A schematic view of what they consider the Validation process to be
  • A bullet point list of how validation effectiveness can be demonstrated
I guess the odd thing for me is why this kind of material isn't presented/circulated more widely by the PRA, as it is surely of benefit to IMAP participants, who wouldn't always be in attendance at a pre-Christmas IRM event!

The other useful benchmarking item from this event is the survey on participants' experiences to date in the validation field. While the sample is small in absolute terms at 18, and is a touch heavy on the GI side (over half of respondents), this is as good a benchmarking aid as you will see for a while, so it is worth noting the following;
  • Just over half have transitioned Validation into BAU
  • Only 3 respondents had a Validation-specific steering committee to help govern the process, with others choosing to use existing committees or the CRO/Risk function
  • Over 80% use the SCR contribution of each risk driver to determine the depth of validation activity. Other determinants include regulator feedback, risk registers and previosu validation reports
  • Over 40% say that their independent validation work is identifying flaws in their "dependent" validation work, while over a quarter say that independent validation has been scaled back due to the quality of "dependent" work!
  • Less than a quarter say that validation of external models (ESGs etc) has been effective
  • Around two-thirds use peer review and sensitivity analysis to validate expert judgements. Horrifically, two respondents said they haven't been able to validate expert judgement at all!
  • Over half are still using external contractors/consultants for independent validation
  • Page 12 covers the popularity of certain sections of a Validation Report. Less than half include a section on benchmarking
  • Most are keeping the Validation Report to under 100 pages, with management feedback being the main catalyst for changing the length.
Finally, a survey from LCP Consulting was published this week covering the progress of Lloyds syndicates in their Validation activity. This was an area which Lloyds acknowledged as "work to do" back in May last year, particularly around validation testing and documentation.

The findings appear to be positive on the whole, with most firms saying they are at least halfway towards their "ideal process". Unsurprisingly, dependency modelling and validating expert judgement make the list of "key challenges" remaining.

Thursday, 16 January 2014

PRA - Q&A from December's Industry Briefing

Following on from the PRA's Industry Briefing on Solvency II prior to Christmas, they have released a set of Questions and Answers, which appear to have prompted by questions asked on the day as opposed to being more generic. A useful document to push around your programmes in the UK in particular, even if you are not part of ICAS+/IMAP.

I was particularly interested to see if they had rowed back on any topics where they have previously expressed an opinion, as well as any new insights which aren't necessarily made public as a matter of course. The Q&A is broken out into topics, so I have grouped my thoughts accordingly.

  • For ICAS+, the PRA are "...focusing in on those areas which move the dial the most", referring specifically to the ICA calculations.
  • They will therefore apply "a relatively higher view" in some areas than others (later referred to in terms of their intensity of focus).
  • They use their IMAP approach as an example of this, where they have grouped the 300+ requirements into 15 categories.
  • My common-sense read of this is, to be proportionate in the above context, the first 7 consecutive categories on the IMAP template would receive less time and attention than the following 8, all of which have the potential to numerically "move the dial".
  • They are already looking prospectively at firm's risk profiles during planning sessions, in advance of ORSA, so that they work and plan proportionally, but with the future in mind.
  • They suggest that firms provide their own opinions on materiality if they wish for the favourable application of the proportionality principle (though they don't guarantee it!).
Documentation-specific proportionality
  • Confirm that "...there is definitely a need for an improvement in the quality of documentation".
  • Seem to specifically align the calibration requirements of Solvency II with the need for additional documentation, therefore a good area to be elaborate in your work.
  • On expert judgement, they suggest that documenting why a judgement was made, and what were the alternatives will help firms currently falling short.
  • " aspiration" to revisit documentation review work already conducted and concluded.
PRA's Supervisory Statement
  • They confirm that letters confirming whether a firm is covered by the reporting guidelines will be sent this month. They suggest categories 1-3 (p20) will be the bulk of participants
  • There are national-specific reporting templates to come, currently under consideration. While they are not certain on submission format for those, they reiterate that xBRL is required for QRT submission.
  • QRTs can be submitted incomplete, but they reserve the right to intervene if you take too many liberties!
  • Acknowledge that, due to most firms' ORSA Processes operating around year-end balance sheets, that they expect to receive a flood of ORSA Supervisory Reports, and that this will delay feedback (presumably worse in 2015 than this year?).
  • A question regarding 'who is the ORSA for' was answered rather dismissively. However, bearing in mind the content of their "good and bad documentation" letter (which constantly refers to "the reader", which for me meant "the PRA"), it felt like a reasonable question. Clearly if the PRA do not like your style, it will add to your review time.
  • They seem to indicate that the amount of time one's Board should spend on reviewing/using their ORSA is not subject to any periodic expectations. That means if you are planning for annual intensive interaction, or something more regular and fluid, you should get a fair hearing from the PRA.
Standard Formula
  • Without much subtlety, they seem to be encouraging firms to look at the appropriateness of Standard Formula asap, encouraging further by stressing "...that internal models do not need to be overly complex". This feels like early positioning for their planned SF work with the industry, where no doubt they will find a few firms ripe for USPs/PIMs during the next 18 months. 
Early Warning Indicators (EWIs)
  • Following on from a post in October, they are evidently still stuggling to calibrate them!
  • They confirm that the purpose of automatic capital add-ons (in the event of a future EWI breach) is to freeze the modelled capital figure to prevent distribution
  • Question 29 is a good example of the PRA showing where their hands are now tied, and where EIOPA will be the provider of guidance.
  • Interesting confirmation that the Commission has apparently asked that as little as possible of the Draft Implementing Measures be changed. Those of us working on non-mathematical areas can perhaps take some comfort from that!

Friday, 10 January 2014

"Comply or Explain" responses to EIOPA's preparatory guidance - UK oddities?

Isle of Man - "Call that a flood"
Happy New Year (or Blein Vie Noa as we say on the relatively unflooded Isle of Man). I hope you all took the opportunity to fall ill and get fat like I did, so we can recommence battle in 2014 with overflowing sinuses and bursting belt buckles...

I managed to take a look at some of the responses that EIOPA have received regarding whether or not the 32 National Competent Authorities (NCA) currently invested in the Solvency II game are planning to follow EIOPA's Preparatory Guidance over the next 2 years. Please serve yourselves from this central location.

It became evident over December that there was likely to be some non-compliance (both the French and British put their heads above the parapet), though as this was a "comply or explain" exercise, this was not necessarily grave - we are after all in the business of 'preparing' at this juncture - but I was curious to see precisely how different countries "explained" themselves.

In response to each guideline within the 4 EIOPA documents, the options for each NCA were to respond;
  1. Yes - we already comply
  2. Yes - we intend to comply
  3. No - we do not and will not comply
  4. Not applicable (though I'm not certain why this is an option)
They were also given space to provide text/links to prove how they are compliant with each guideline, and som space to provide explanations (questionnaire template here).

I was therefore surprised to see the British approach (which was generally "yes") also involved;
  • Not providing an explanation when they have said "No" to a guideline (which admittedly is only in one case!)
  • Unnecessarily using a copy/paste piece of text as an explanation for a number of guidelines where they have said they "Intend to comply"
  • Unexpectedly answering "Not Applicable" to no fewer than 10 articles within the System of Governance guidance, some of which definitely featured in the feedback on the PRA's recent Supervisory Statement as bones of contention (the actuarial function's responsibilities for example).
Obviously no surprises that the French will not be attempting to comply anything in the System of Governance world after their earlier warning, though their rationale is expanded upon in this article. That the strict definition of "AMSB" is an issue for the French industry is surely old news at this juncture, and it is ludicrous that such a matter has yet to be dealt with by the Commission's draftsmen. It certainly hasn't posed an issue for Germany (who intend to comply with all of Sys Gov), who operate dual boards.

While more may emerge over the next few weeks on what has been submitted here across the countries, I am more immediately interested in why the UK have elected to respond "not applicable" to so many System of Governance guidelines. It seems to fly in the face of their Supervisory Statement, and I can't imagine EIOPA are satisfied with that response.