EIOPA's Bernadino with keynote speech - D'ohs and Don'ts...

Solvency II implementation
- Homer called it...

The latest pit stop on the Solvency II Last Legs tour was in the picturesque, almost-an-anagram, Slovenia, where EIOPA's gaffer joined a throng of hearty souls to deliver a keynote speech last week.

Given that the outside world is seemingly becoming more sensititve to the ensuing changes (at least from a capital adequacy perspective), it has been noticeable that EIOPA's speeches have become heavier in practical tone rather than the flabbier ethereal tones of yesteryear. In particular, conduct risks, conflicts of interest and the importance of an effective second pillar to counter the aggression and self interest of distribution arms/firms have all become prominent features of what is being touted as the Solvency II benefits package. Given what it has cost, we'd better deliver it!

Back to the speech, a few basic soundbites are littered throughout, which might benefit your training packs for the home stretch;

• Solvency II is "EIOPA's top priority", 
• It is a "pretty good starting point", rather than perfect, is "...a must and a true game changer", and "brings a new risk culture"
• It is "a tool to foster a true risk culture in the organisation"
• "It is clear that Solvency II will bring more awareness and transparency on the true risk profile of certain business models"
• It will deliver "intelligent and effective regulation which does not stifle innovation"

A couple of open-ended questions emerge from the text itself;

• Does Solvency II only "encourage" firms to define their risk profiles and risk appetites, as opposed to compel it?
• Is the Solvency II take on ORSA really "best practice at international level" - seems fair, but does anyone else want a shot at the title!
• Why is "overall solvency needs" constantly accompanied by bunny ears - if these guys aren't convinced by the term, what hope does the industry have of driving it into the glossary!
• Is it just executives who need to know that ORSA is a "cultural change", as opposed to NEDs, non C-suite senior management and wider stakeholders. Institutional investors would surely benefit a 101 class, given their demonstrable views on what SCR coverage ratios mean for the plausibility of some firm's strategies, and while Sr. Bernadino comments that "...effort needs to be made" to explain SCR volatility on p8, a dawn chorus with Karel van Hulle on how "ridiculous" the outside world's expectations are doesn't even qualify as an hors d'ouevre.
• That risk culture provides "...an appropriate balance with the natural sales driven culture" - EIOPA have alluded to this before, but never quite as explicitly as this. If the Risk function's job is predominantly to counter sales activity, can it ever be seen as value adding?

And a couple of specific themes are given special treatment for everyone's benefit;

Prudent Person Principle and the investment strategy of insurers

• PPP emphasised as not giving insurers a freebie to hit the roulette tables with their asset book, and will be "...closely monitored".
• Current environment encourages aggressive monitoring, with the "search for yield" quote now ubiquitous in supervisory speeches which touch on macro matters.
• "Asset risk calibration in Solvency II should not be used to privilege or incentive any specific asset class" - not convinced on this front, given the remit of your friendly local CIO must contain an element of maximising gains within appetite, and the calibration can surely influence that.

Product availability

• "Solvency II does not intend to unduly penalise specific products" - evidently does though, hence the sprint to the door from Ergo et al in the guaranteed interest rate product space (not unduly though to be fair, given the Teutonic pleas for transitional mercy!)

ORSA and Risk Culture

• The section somewhat labours the point on coverage of all risks, assessment of all mitigation techniques, and the role of the Board in driving the associated cultural changes, but I guess given the geographical location of the speech, some of the nearby countries may benefit from the encore un foi approach - no names naturally...
• "Capital will never cover up for the lack of proper governance"
• "ORSA is based on the companies' DNA - their strategy"
• "The key role in the implementation of ORSA belongs to the top management"
• "It is up to the Boards to set, communicate and enforce a strong risk culture..."

Insurers and Supervisors in general

• Talks of Risk Functions needing the correct skills to assess risks in asset classes - is there an implication here that functions will be light on quantitative skills post-2016?
• Squares the circle of prudential and conduct risks on p7, talking of mitigating conduct risks "since inception" in one's product development, design and marketing processes.
• That Solvency II "...requires an increased degree of supervisory judgement" in order to intervene at the right time, and the new supervisory requirements represent "...an upgrade in the quality of supervision". I'm sure some countries might take that as something of a slight, given the maturity of their existing processes, but probably fair for the majority.

Plenty of fuel for your respective Board and Senior Management briefing fires, so go forth and propogate!

2015 FTSE Interim Reporting and Solvency II costs - forewarned and forearmed?

Solvency II costs - impressed?

I always liked to keep an eye on the FTSE lads’ Interim and Full Year pronouncements on the Solvency II front back in the day, but given the legslative delays and sporadic cost reporting over the last couple of years, plus the internal model hokey-cokey, disclosures on the topic have been “Slim Pickens” to say the least.

For those interested, the sweep I did last year is here, and while a few of the firms featured have attempted to expand out, they have largely disclosed the same information as last year (Boiler-plate disclosures? Never!).

However, a few of the great and good have chirped up some extras about Solvency II on the home straight, none more revealing than the Canary-supporting egg-chasers at Aviva. They dished up the basics as a matter of  course;

• Solvency II costs of £46m for the half year (£39m for last half year)

• Submitted Solvency II internal model in June and expect approval in December. – must be a good one, Hannover Re-style!

• Currently operating within our expected Solvency II target range, regardless of any changes in economic capital surplus quantum and composition driven by Solvency II

The InsuranceERM lads expanded on that, having presumably dialled in to associated conference call! In a suit-and-tie version of Surprise Surprise (R.I.P Cilla), the CEO shocked listeners with the following statements;

• "[Solvency II] has taken an inordinate amount of management time and I'd really like that time back"
• "It has cost us in the region of £400m [$620m]. This figure does not impress me one little bit…” – to my shame I did do the countback on published costs, as if a CEO couldn’t count to £400m, and it does add up!

RSA, in between flirting sessions with the watchmaking fraternity, were similarly revealing, confirming;

• Solvency II costs of £14m for the half year (same as last half-year)

• “…application for Internal Model approval under Solvency II has been submitted and we target a positive outcome by year end”

• "…current Internal Model for Solvency II shows higher coverage ratios than our ECA model.”

Old Mutual does its best to treat the SAM/Solvency II imposters the same in its reporting, but in recent times has been light on our side. There was a bit more in the bag this time round though, particularly;

• "Based on the current underlying timetable and regulation of Solvency II, we estimate the total cost of completion will be up to £20 million, of which £10 million will be incurred in H2 2015, and the balance running into H1 2016".

• "The Solvency II regime will introduce a different lens through which to look at Group capital. It will use a more conservative 1 in 200 stress scenario in determining capital requirements and apply a more rules-based determination of capital fungibility and transferability"

• Given their tone on the “inherent conservatism” of Solvency II and their loving gazes at the existing FGD treatment of capital fungibility, can we read some indifference to their current treatment as a Group by the PRA, perhaps?

• "During July 2015, we completed our initial reporting to regulators under the interim arrangements of Solvency II"

I suppose the biggest surprises continue to be the (potential) absence of compulsion to internally model for entities such as Old Mutual (confirmed as “out” of IMAP on p82 here). Given the PRA’s pronouncements on Standard Formula appropriateness and capital add-ons, you might expect them to be marched down the aisle before too long.

Standard Life,perhaps betraying where their strategic priorities lie (nicely covered here), did little more than state that they will “remain strong” on the capital front – nothing on costs, nothing on implications, and nothing on modelling (though they confirm here that they are “in” apparently!). “In”, but on the naughty step perhaps, or is the topic just unworthy of comment?

L&G were happy to talk technical, rather than cry about hundreds and millions of pounds of spilt milk – their release touched on the following;

• Implementing a ‘capital-lite’ model for bulk annuity new business, by reinsuring out some of the risk (light detail here and here, more detail on p5 of the interims).

• Solvency II internal model is being reviewed by the PRA, and “…It is anticipated that our Solvency II internal model will be approved in Q4 2015, ready for use on the Solvency II go live date - 1 January 2016”

• Also have applications in for the use of transitionals, matching adjustments and using deduction and aggregation for its American business

• “We expect the final outcome of Solvency II to result in a lower Group capital surplus and solvency ratio than the Economic Capital basis. Our Economic Capital model has not been reviewed by the Prudential Regulatory Authority (PRA), nor will it be.”

• "We note recent clarification from the PRA to the effect that transitional capital will count as Tier One capital, including for assessments of dividend-paying capacity". This is particularly piquant given Sam Woods’ coverage of the “dividend” issue a few weeks ago when trying to reassure a room full of analysts that the insurance sector isn’t a busted flush from an investment perspective!

A busy reporting week for sure, with seemingly no horror stories come at the top-end of the UK Insurance Industry...Including a post-script from the Pru today.

They have revealed a miniscule spend of £17m on Solvency II costs in the year-to-date (against £28m for all of last year), as well as a few nuggets in the same vein as the competition;

• "...we submitted our Solvency II internal model applications to the Prudential Regulation Authority in June 2015"
• "We continue to seek opportunities to transfer longevity risk to reinsurers or to the capital markets and have transacted when terms are sufficiently attractive and aligned with our risk management framework."
• "We also noted at the time that certain aspects of our economic capital methodology are different to those required under Solvency II and that the outcome under Solvency II would be lower than our reported economic capital level. This remains the case." - same issue as Old Mutual, one presumes?

They even dropped a Solvency II slide into this morning's presentation pack (slide 28). Interesting that they go to the trouble of highlighting that the transitionals and risk margin "broadly offset" on the UK Life book, as well as their distinct gripes in their Asian and US businesses. 

...and another post-script from Royal London (so I have everything on one page!)

• Royal London will use the Solvency II standard formula approach initially and will consider seeking approval for its internal capital model in due course

• We expect to meet the new Capital requirements without material adverse impact on policyholders but there are significant details which remain to be clarified about the new regime. It is possible the outcome from Solvency II will require insurance companies to hold more regulatory capital than is currently required. If Royal London was required to hold significantly increased capital, then the levels of Royal London Profit Share we are able to allocate to our participating members may need to be restricted

...and two more post scripts: firstly Admiral

• "Admiral is developing an internal economic capital model which will be used to calculate regulatory capital requirements following approvals from the Group's regulators in the UK and Gibraltar. Such approval is not likely to be sought or granted before 2017."
• "The Group's regulatory capital from January 2016 will, therefore, be based on the Solvency II Standard Formula, with a capital add-on agreed by the PRA to reflect recognised limitations in the Standard Formula with regards to Admiral Group's business (predominantly in respect of profit commission arrangements in co- and reinsurance agreements and risks arising from actual and potential Periodic Payment Order (PPO) claims)."
• "The level of capital add-on and resulting Group capital requirement from January 2016 is expected to be confirmed by the PRA in the final quarter of 2015."

...and secondly Phoenix

• "...submitted its application for regulatory approval of its Internal Model in June 2015"
• "...Group capital position under Solvency II expected to be in excess [of current surplus]
• "Over 2015, clarity on Solvency II regulations has improved but uncertainties remain in relation to the Group's IMAP and other Solvency II-related applications"

ORSA's Head? International Actuarial Association on ORSA Value

Unknown unknowns
- just say it one more time...

A rather verbose piece from the International Actuarial Association, or AAI if you are inclined comme ça, on Delivering Value From ORSA. Always worth a glance over these at this stage of proceedings, regardless of which side of the Atlantic you are currently rocking (with both Canada and the States keeping noisy on the topic in recent weeks).

As one might expect from a publication from an actuarial representative body (and one which aims to cover all IAIS bases, rather than the specificities of US/Canada/EU ORSA), it struggles for semblance once it needs to cover non-quant, and is therefore heavily flannelized.


The definition used by the IAA is:

ORSA provides a declaration of the company’s assessment of its position in terms of profit, risk and capital, both now and in the future, under different scenarios and relative to the company’s appetite to risk.

The purpose of the paper is to provide Board members with "insight into the value of the ORSA Process", which is a noble aim in itself, and a few nice touches can be found throughout, in particular:

• The word “profit” features on virtually every page, almost unheard of in the EIOPA Guideline world where being able to “enhance the management of the undertaking” is King. Heaven forbid anyone makes a quid or two out of it!
• The coverage of how insurance companies tend to profile risk is clean and rational (p3).
• The concept of mitigation through company policies, overseen by good governance structures, as opposed to either holding capital or purchasing mitigation, is also expressed with clarity.
• “A company’s risk appetite, once determined by management and approved by the board, can be treated as a budget”. Lovely concept, though it needs more flesh to provide the 'insight on ORSA Process value' that the paper is intended to.

A few contradictions emerge in the document;

• ORSA “needs to consider and be consistent with an insurance company’s business strategy” – does the process not need to as good as set it? Indeed, they go on to say on page 2 “The true value of ORSA can only be realized when ORSA becomes integral to management’s strategic decision making”!
• Does ORSA “help build/maintain risk awareness throughout the company” – it would be a struggle to say it could do that any further than the relevant staff which EIOPA ultimately allude to. 
• Concept of “Solvency Risk Profile” is borderline unintelligible (p3)
• Terminologically, the section on risk appetite and risk profile on p3 is heavily quant-based, and feels country miles away from similar materials published by the CRO Forum a few weeks back. Specifically, it talks of “acceptable levels” of solvency risk, “minimum and maximum bands”, and that in aggregate across risk categories “This band of acceptable risk is referred to as the risk appetite”. Given it doesn't appear to veer to far away from the FSB's take on Risk Appetite, perhaps this is more of a step forward than EIOPA's 2013 back pass to the AMSB on the matter (p59-60)
• That models used should be “subject to independent validation” – is it that important if you are not using your model for regulatory capital purposes (i.e. just for ORSA)?
• The residue of Rumsfeld, which I had hoped had been resigned to the Noughties dustbin, reappears on pages 7 & 8, specifically “A complete ORSA would include the assessment of unknown unknowns”. Pacino said it best in Godfather III…

Solvency II Updates and Corporate Governance in Financials - PRA "Back for Good"?

A few releases of note out of the UK regulator over the last working week or so means I had some catching up to do - sometimes it feels like "All I do each night is PRA"...

They started off with a Director's Letter just before the bank holiday weekend. A general unwillingness to crack whips was present throughout this doc, even at this late stage, with a few references to "inform your supervisor" as opposed to "just do it".

The letter states that the PRA were due to publish some of their findings from their balance sheet review work by the end of the month - not done as yet, hopefully turns out to be money well spent

Regarding Standard Formula appropriateness:

• They stress that firms must identify deviations from Standard Formula from their risk profiles, and include an assessment of the significance of that deviation in their ORSAs (emphasised in their October industry presentation from p6)- is the implication here that firms are not doing this at all at the moment, or just not reporting it in ORSA?
• Highlight that "supplementary information" used to explain such deviations will also be assessed by the PRA. Does this add significance to one's qualitative commentary around Standard Formula/Risk Profile deviations? Can a good explanation be the difference between having to IM/PIM at the earliest opportunity against being given a couple of years of capital add-on breathing room?
• The PRA note that, "...where a firm's conclusion on this question is not appropriate", it will intervene. It is not clear how a firm's conclusions about its deviation between SF and its Risk Profile could be considered "not appropriate", but I imagine that anything which attempts to dodge USPs/PIM/IM ONCE the divergence hits the limits in the Delegated Acts (276-287) would be frowned upon. There is certainly no appetite at the PRA for renewing capital add-ons in perpetuity (slide 13), which given the UK's familiarity with ICA and ICG, might be a desperado's first chance saloon.
• The PRA are planning "specific interventions" on this front (detailed here), but not necessarily in time to correct before 2016.

Regarding Internal Models

• Not happy with "wide variation in quality of IM Change policies. Sounds like firms are doing their best to avoid change criteria that results in frequent submissions for reapproval, which one would expect!



IMAP Submissions
- Everything Changes

• PRA seemingly expecting firms to have not only taken on board their feedback, but also had their IMs revalidated, before submitting their IM application. Given that validation will be chalked down as a 'once-a-year' job at the moment (despite the IRM's efforts), that seems highly unlikely. They give themselves a get-out-of-jail-free card though by stating that firms must be confident that any changes in their IMs both address PRA feedback and meet the tests and standards for model approval.
• They appear to advise against submitting applications if you have a material change in the pipeline.
• Heavily critical of Board involvement in validation. Here they look for evidence of Boards "overseeing and influencing" the validation process, whereas previous PRA presentation slides  did not have such expectations of Boards (slide 8 here), or indeed expected more (slide 9 here)!
• The expression "internal management loadings" appeared in my life for the first time, which sounds to a non-technical person like myself that firms are effectively "dumbing-up" the capital requirement currently delivered by their IM in order to plaster over mathematical or data weaknesses. PRA certainly not impressed by industry suggestions to date.
• Given the number of firms who must have dropped out of looking for Day 1 approval, they still shake the pineapple tree here in order to remind applicants that contingency plans should be ready in the case of application failures. "Many firms still have a considerable amount of work to do" sounds to me like some applicants are being pre-warned of their imminent failure!

The PRA also released a consultation paper entitled Corporate Governance: Board Responsibilities, which has the rather light ambition of identifying "key aspects of good board governance to which the PRA attaches particular importance in the conduct of its supervision".

A few straggler items in it;

• That failures in governance and/or risk management have been a key factor in "many" financial sector failures - as opposed to "all"
• That they consider the FRC's Corporate Governance Code, amongst others, a "comprehensive guide to good corporate governance" - given the firms experiencing the financial sector failures were most probably complying with it, not a great advert!
• "Culture is the collective responsibility of the Board" - a bit of a nowhere comment, but instinctively, I don't see how this can be right. They can be accountable to both supervisors and shareholders/members for cultural failings, but where could such a responsibility materialise into demonstrable actions? 
• "...the Board is responsible for the oversight of, but not for managing the business" - in relation to my comment directly above, can both statement be correct?
• "The Risk Control Framework should flow from the Board's Risk Appetite" - I'll work on the premise that this is missing the word "statement" at the end of the line
• Section 11 on remuneration expects that incentives are aligned with "prudent risk taking" - what if prudence is too conservative for one's risk appetite?

Into some of the expected themes;

• Strategy to be "owned by the Board as a whole"
• They wed Culture and Remuneration "...to encourage and enforce the kind of behaviours the Board wished to see"
• They want a "well articulated and measurable" Risk Appetite Statement which can also be "...readily understood by employees throughout the business". Doesn't seem feasible, given the metrics commonly used in risk appetite statements are not exactly Finance 101 (Solvency/Liquidity/Earnings-related),
• "It is the responsibility of the Board to ensure that the effectiveness of the Risk Control framework is kept actively under review" - has at least an air of COSO about it, don't think it was deliberate
• Big section (6) on responsibilities and accountabilities of exec and non-exec directors.
• Followed in 7.1 with "...non-executives should not simply delegate responsibility for major decisions to individuals among them who are considered specialist in the area" - this has internal models written all over it (p5-6)!

Happy to see this second document, though I don't know what it adds to firms' understanding about what is "good and bad".




Central Bank of Ireland speeches - "and there's more"...

Solvency II-ready?
"It's the way I tell them"...

I rejoiced on Friday at the sight of more speech material emerging from the Central Bank of Ireland directorate, if only due to the Frank Carson* gag I could wheel out due to the volume of their recent speech-giving...

As an industry we should always be happy to hear the regulator on lead vocals, so I gave the pair of speeches released a once-over to see what Irish concerns have justified the recent bounty of public addresses.

Deputy Governor Cyril Roux was very targeted in his speech, delivered to PwC's Annual CEO Dinner. It apparently gave him "great pleasure" to be in PwC's offices, which presumably means they weren't on the meter...

Some of the statistics and comments served to highlight that Ireland is something of a special case in the context of Solvency II, in that two-thirds of Irish gross premiums are to cover 'foreign risks', and that many insurers under their auspices will not have proximity to or oversight of much of their distribution network.

A few messages jumped out from the rest of the speech;

• A lot of positive messages had a caveat implicitly wrapped with them - "...we are in the main satisfied with your engagement with the Central Bank"; "On the whole international firms generally file returns on time..."; "I also commend your general adherence to our Corporate Governance Code..."
• Goes as far as using the IMF's recent review findings to tell firms to stop poaching regulatory staff while simultaneously complaining about turnaround time!
• Nice point about keeping focused on current risks through the PRISM framework, rather than drifting into Solvency II mode before 2016.
• Having recently been complimented by Sr. Bernadino on Ireland's reserving governance (p12), he reinforced that assumptions pertaining to reserves are expected to be "critically debated".
• On ORSA, that the CBoI "...expects to see Boards actively directing the use of risk management tools...such s stress or scenario testing"
• On Internal Modelling, he not only expects Boards to "...have sufficient knowledge and skill to challenge the model outputs", but adds that they "...like to see a Board direct the modellers in their firms to run specific stresses and scenarios prior to an item being discussed at the Board" - a big advance on previous murmurings on use test from supervisory bodies.
• Pulls up firms who are seemingly not tailoring their model's parameters for the Irish-specific business.
• Similarly a message of insisting that cross-border distributors tailor Group-driven materials and processes for the Irish market such as "...group policies and output, such as the ORSA, and internal model...".
• A cute but important distinction that "embedding" Solvency II, rather than complying with it on paper, is still going to take considerable effort.

Sylvia Cronin's speech (well, the Solvency II aspect of it) stayed along the same lines as she pursued at the Industry event in late April, where she was harsh on a number of specific elements in preparatory phase ORSA Reports which had been observed.

In a section of the speech covering "challenges to be overcome", a number of pieces of insistent ORSA direction are given, for example;

• "Your Board must use the ORSA to more fully align business strategy and capital"
• "You also need to use it as a lever to discharge your core responsibility not to take on risks and exposures which the capital base does not support".
•  "...there is a lot of work yet to do by firms to get this element of the new regime embedded to the extent we required" - I add here that, given they will have only reviewed 2014's preparatory phase ORSA Reports and Processes, is this not a given, particularly after CBoI sponsored a template-filling approach for the smaller firms?

On the wider world, the speech covers;

• That Solvency II sets out "clear standards and expectations around your internal control and risk management" - agree on the latter, but the former?
• Believes that the "scope for subjective judgement" may open up regulatory arbitrage opportunities, and that "a number of iterations" will be required before EU-wide consistency is achieved, in a sly dig at, errrr, everyone in mainland Europe! 
• Similarly, the volume of cross border business HQd in Dublin poses a problem due to the geographical boundary of CBoI's "prudential remit"
• Reinforces the message fro April that Pillar 3 readiness is a growing concern
• A large suite of views on Conduct Risk, where "culture" and "conduct" are hogtied together as the grimmest twins since DeVito and Schwarzenegger - that message won't be changing in a hurry, so I strongly recommend your work in that area caters to the supervisor's tastes.

Useful insight from what appears to be a supervisor with their sleeves rolled-up - keep up the good work.

* PS I know the connection is tenuous as he's a Belfast man, but give me a chance!

Solvency II Industry Forum in Ireland - Clint and Chocolate

Having treated the speech by EIOPA's Chair as the main course a few days ago, I'd better take a look at the hors d'ouevres and pudding. At the CBoI's industry event in late April, a couple of their biggest hitters delivered speeches of their own, with a similar tone to the PRA's effort in October (i.e. a considered yet firm rollicking).


Solvency II Marathon
- no Snickering...

Sylvia Cronin's speech, in which she referred to Solvency II as the "Marathon of Marathons", shone some light on how Ireland plc has dealt with ORSA during the preparatory phase. If you remember, the CBoI kindly provided ORSA templates for the entities lower down the PRISM spectrum, which I felt at the time was fully justifiable, and a tactic other NSAs should have adopted.

It wouldn't appear that the industry has performed exceptionally in their 2014 efforts, with Ms Cronin drawing attention to the following flaws in execution

• Variances in ORSA Report content between firms in similar sectors  "cause for concern" - a slightly worrying comment, given that some firms will be over-elaborating with content with the help of their friendly consultancy firm.
• Boards were aggressively called out on the "ownership" front. If your Boards have been ambivalent to-date with regards to participation in the ORSA process, they will seemingly get a hard time from now on.
• ORSA Process "...as important as the document itself" - music to my ears, and still a surprisingly difficult concept to convey
• The "so called use test" is referenced around ORSA, and not in the context of internal model applicants - no idea what that is about, so will assume it was a clumsy turn of phrase, rather than a new element of legislation
• Stress testing seen to be "too benign", with firms ignoring key risks and hard-to-quantify risks. Given that the UK firms received similar feedback on their 2014 ORSA stress testing efforts, it doesn't appear to be a country-specific failing.
• 'Local' (i.e. Irish) ORSAs which filter into wider Group ORSAs have not been adapted to fit the business model of the Irish entity. Good issue to pull firms up on, if they are relying Head Office to provide them with process and reports in template format 
• Business plan and forward looking time horizons not considered plausible, possibly a by-product of the lack of Board involvement in the ORSA Process

On the Pillar 3 front, she noted the following

• Pillar 3 is now a "cause for concern" - decisions by firms on architecture and expenditure "now overdue".
• Only half of High or Medium PRISM firms have participated in external user testing on Pillar 3. This still feels proportionally more than the PRA have tested out, though it is still viewed as a negative by the Bank.

"Problematic Applicant"?

Cyril Roux on the other hand wanted to reflect on "the good the bad and the ugly of Solvency II" in his address. While most executives paying for Solvency II programmes in EU insurance entities would suggest that "A Few Dollars More" is a more apt Clint Eastwood hook, he took a more macro view during which he;

• Patted the Irish regulator for its "good work" putting the house back in order after the laissez-faire approach at the start of this century. 
• Also reiterated that Pillar 3 preparations are light in the country, urging firms to "...devote the resources necessary"
• Dwelled heavily on the subjects of investment risk appetite and prudent person principle
• Pointed at "problematic applicants" who can now seek approvals to do business in the EU regardless of the supervisor's thoughts about their business models
• Called Solvency II's quantitative requirements "ill conceived" and "overboard" and "clearly too complex"
• Commented that SCR is "unlikely, unreliable tool to manage capital" - "...certainly the supervisor will not be using it for more than its worth".
• Gave short shrift to the abolition of prudential reserving under Solvency II, and indeed Bernadino referred glowingly to the Irish approach to reserving governance (presumably to counteract this grievance?) in his keynote speech.

A lot to be taken from these speeches if you have any dealings with Irish insurers, and with the clock ticking, I can't imagine there will be better steers than these during the preparatory phase.

EIOPA Chair's speech in Ireland - Nothing Compares to U2...

The huff has concluded it would appear – EIOPA’s gaffer has returned to the speaking circuit after a few weeks where the institution’s communications had been reduced to Post-It notes on the fridge after the EU butchered their budget.

Bernadino - dodgy stand-up

 

A recent Solvency II industry event was held in sunny Dublin, with Sr. Bernadino providing the keynote address. He chose to start and conclude with U2 jokes, which were as lame as a constipated flamingo (I would have thought Ben Folds Five or Lulu would be top of his playlist right now…)

That aside, the meat in this musical sandwich was pertinent to the whole industry, so I've picked out a few highlights;

General

• Wants to outline EIOPA’s move “from regulation to supervision” (p2), though goes on to say that “…EIOPA does not replace NSAs. The responsibility of the day-to-day supervision…rests with the NSAs” (p10). I think this subject warrants clarification from NSAs and EIOPA in concert, given we can see how having a remit-less overseer is putting the PRA on the back foot
• Acknowledges that the result of the mathematical squabbles is “…perhaps a too complex SCR formulation” (p3)

ORSA

• ORSA considered to be “…best practice at international level” (p4) – not sure if he means ORSA in general IAIS terms, or the ORSA concept he has curated within the EU!
• While he drops some of the usual ORSA bluster in about it being a “game changer”, he beefs up on the Board’s obligations, citing their "fundamental role to play", and stating in particular that "they need to set, communicate and enforce a risk culture".
• Of particular significance to his Irish audience was his emphasis on risk culture as "..an appropriate balance with the natural sales driven culture". This is perhaps the first instance where I have seen insurers' distribution arms formally considered by a supervisory body to be the enemy of 'risk culture', and for EIOPA's chair to choose Ireland, a country which has for years marketed itself as a cross-border sales centre on the right side of General Good provisions, is shown at the end speech to be a pre-emptive strike.

Internal Models

• Like his associates at the PRA, he notes that the use of internal models on the banking side "has been subject to increasing scepticism" in justifying the rigour of the Solvency II approach to modelling
• Worried that models will become a "capital optimization tool" - the PRA's NED briefing (slide 8) paints a similar picture if you read between the lines regarding missing risks and experience not reflected in parameter setting.

EIOPA's workload

• "Current different supervisory cultures" in the EU are creating work for EIOPA, noting that "our feedback can sometimes be challenging". Wonder who they're getting at there, France!
• They appear to be developing a Supervisory Handbook of good Solvency II practices. Chapters are already written on Risk Assessment, Boards and Governance, PPP and proportionality in Key Functions to name a few. Something to look forward to no doubt

Ireland-specific

• Go out of their way to applaud the onerous reserving governance in Ireland (here?), considering it practice which other countries should emulate.
• On the other hand, "...in the specific case of the Irish insurance market" he targets the country from a conduct risk/General Good perspective as one of the main cross-border players in the Union.

One can't help but feel the latter part of the speech was deliberately laid at the feet of the Irish, rather than aired in a more generic manner, given the country's continued corporation tax-related appeal to cross-border distributors. I guess when it comes to identifying the perfect audience to sketch out EIOPA's inevitable foray into Conduct Risk regulation, Sr. Bernadino found what he was looking for...

Jurassic Talk - enhanced NED challenges during Solvency II preparations?

 Britain's youngest NED

Given that there won’t be a heck of a lot more briefing done on the Non-Executive Director front, I’ve given the PRA Industry Event slide pack published the other week a bit more of a going over to see if the left and right hands are pushing the Solvency II wheelie bin in the right direction. I haven’t gone as far as watching the 1h 30m video of the event yet – if I wanted to watch a room full of fidgeting old men in ill-fitting suits I’d just go to Bridge Night at the bowling club…

I can’t say I was massively enthused by the read of the slides as an individual who is frequently delivering material to the very audience the presentation was aimed at. I would highlight the following oddities;

Internal Model-specific (slides 6-12)

• That Solvency II “sets a high bar” for model approval – that feels a little disingenuous given that the PRA has had the whip hand in the IRSG’s internal model committee for years, and has evidently driven their CAT. Fair to say that the PRA set the "high bar" on behalf of the rest of Europe.
• From the “lessons learned” section they suggest that some IMAP/CAT firms have used assumptions which are not matching their experience. Is that not bravado bordering on criminality? Doesn’t feel like small beer, so unless the PRA are splitting hairs with that comment, I trust the protagonists had a strip torn from them.
• Some models ignoring “Key Risks” faced by a firm – how can this be? If this is about cheeky risk selection (i.e. let’s use SF, but model Market Risk as we get a good number from it) all well and good, but to say that firms are ignoring them is not a good steer, and if they are, then how is punishment not already being dispensed?
• For Use Test purposes, NEDS told to have “belief” but not “blind faith” – this feels like Bank Creep, given that the PRA  have been vocal (here and here) on firms blindly following models after the banks got caught with their trolleys down a few years back (nice PRA summary here). Doesn’t feel especially fair to tar insurers with exactly the same brush in advance, even if it is smart!
• “Boards need to own validation design” – just sounds meaningless when you read it back. If you want them to “do” the design (which Andrew Marshall’s later slides deriding the efforts of the validation contracting community suggest also support), then just say it.
• The “Key Questions” slides contain some very ropey gear. “Does the output of the model give a credible answer”? “Can the firm survive on the Standard Formula”? The terms used are so flimsy that one could spend hours arguing the toss about their definition – “so what is survival – EC+, SCR+, MCR+ with recovery plan” etc.

ORSA and SoG (slides 14-18)
Starts with a bit of good news – some generic industry feedback is seemingly due within the next couple of months (pertaining to our 2014 ORSA efforts?). The slide summarising findings to date is also a useful yardstick for those who can’t wait that long.

For System of Governance, the executive world should prepare themselves for NED questions regarding whether or not they (as opposed to their underlings and contractors) are reading EIOPA's Guidelines. Let's hope they have!

On the gnarlier side;

• Seems to be an obsession with assigning named individuals (as opposed to roles or teams)  to perform mitigating tasks relating to anything ropey uncovered during the ORSA
• “ORSA should be holistic” – at what point is that breathtakingly grim term going to be put to pasture? For a NED briefing, the use of plain English should be considered par for the course. It is followed two slides later by “top-down/bottom-up” which is equally non-specific.
• “ORSA is not a compliance exercise resulting in a report to the PRA” – I think you meant to say “not ONLY...”!

The final slides from Ian Marshall’s presentation are revealing more due to the clumsy terminology often used at the table with NEDs (“Key Drivers” and “Key Correlations” for example – if you mean “most money riding on it”, then say it!). Also, the idea that Risk Appetite is “no longer an aspiration” is worrying – I would have given the insurance industry credit that it ceased to be aspirational some time ago, and doesn’t need a 2015 ‘tick’, but then I am a trusting fellow.

Does anyone think, off the back of these slides, that their NEDs will be chomping at the bit at the next Risk Committee/Board meeting using the ammunition supplied here?

Maybe I’d better watch the video after all… 

PRA's Countdown to Solvency II Implementation Event - When I Need U(SPs)

PRA Implementation countdown
- "Feel like dancing" now?

So along with the entire UK Solvency II sticky-beak brigade, I had the unbridled pleasure of attending the PRA's 'Leo Sayer' on Friday, confidently titled Countdown to Implementation, despite going on to list a range of matters which have probably given both Internal Model and Standard Formula firms plenty of enthusiasm to try and turn the clock backwards rapidly!

Paul Fisher, Julian Adams' replacement as Executive Director of Insurance at the PRA, kicked off with a set of Solvency II vox-pops;

• Solvency II is the "main game in town"
• "The end is in sight"
• The PRA are "not gold-plating the Directive"

A nice bit of reassurance at kick-off time then - unfortunately, the clarity which was to follow from the technical specialists on a range of topics was probably not what everyone wanted to hear, given the tone of some of the audience questioning that followed! In particular (and with everything in full quotation marks below having been said by a PRA rep on the day);

• That the PRA will "have to prioritise" if everyone in the IMAP queue for 'from 2016' approval drops their applications in at the end of June, and that applicants should be "striving to submit" sooner. Suggests to me that the smaller firms in IMAP may get bumped to squeeze in the big boys.
• The reinforcement of Mark Carney's message from the other week that they will have no problem refusing permission to use models, though this was couched by Fisher in the more appropriate context of failure to meet any of the TSIMs simply "cannot be allowed".
• That, although over 90% of the UK industry was down for using Standard Formula, the PRA will be equally aggressive when challenging their preparedness as they will for IM firms.

I didn't hang around for the afternoon sessions as I had a hot date with BA, so pull whatever you can out of the Other Approvals and Regulatory Reporting slideshows. However, I would draw attention to the following from the earlier sessions:

Implementation and Policy overview

• The Old Lady of Threadneedle Street protested through multiple speakers about how they recognise that bank and insurance internal models are different, and how Insurance Supervision is now "embedded into the Bank" - I would assume to justify the credit crunch-influenced aggression now being taken by the PRA on assessing capital models (visible from Adams's speech around the time of BOE/FSA merger right through to Bailey's speech at Mansion House on Thursday night).
• An interesting slide 3 about how much more work Solvency II will generate for the PRA from go-live!
• Referred to FLAOR only once before switching to ORSA, suggesting that this disposable acronym is as much of a pain in the neck for the supervisor as it is for firms!
• Highlight what "Good" and "Bad" ORSAs have contained to-date. Clearly some firms are box-ticking, leaving an unusable report which is only skin-deep compliant as output. They were particularly scathing on Stress and Scenario Testing efforts, and implored that Reports should not be written for the PRA's benefit (though naturally must cover what the DAs and EIOPA have already set out).
• A nice piece was discussed around the expected depth of director-level knowledge of their internal models. Andrew Bulley made a useful distinction between "conceptual" and "technical" knowledge, where your dithering 80 year-old INED from the fishing industry might not be expected to understand correlation matrices, but should probably know their significance, and alternatives to them.
• For model applications to date, far too big ("encyclopedic" in cases), with too much process description, and not enough on assumptions and expert judgements.
• That it is a firm's responsibility to "ensure compliance" with the Delegated Acts, and given their lessening proximity to the legislators, the PRA flag in advance that they will not be able to give "concrete advice" to firms in future.

Standard Formula

A particularly good ground-setter, given the dearth of work published previously on Standard Formula firms and the PRA's expectations. Calendar included on the slide pack, which will be of massive use to your PM/PMO staff!

• PRA will review ALL firms ahead of 2016 for SF appropriateness - "priority" firms assessed by Q1 2015, everyone else by end of 2015.
• While SF SCR is apparently close to current ICG numbers for GENERAL insurers in the UK, it is noticeably larger in LIFE firms 
• PRA is "not promoting" SF ahead of internal models
• Vigorously directed all attendees to EIOPA's Underlying Assumptions of SF Paper - expectation that some firms won't read it, and just expect SF plus any add-ons?
• Very vocal on the "significance of the deviation" between SF SCR and one's own Risk Profile - as we know, the Delegated Acts quantify what 'significant' is in the context of capital add-ons
• An expectation that ORSAs will be used in the assessment of SF appropriateness - qualitative for sure, possibly quant elements as well?
• Range of examples of where significant divergences are being found, by Risk Category, and by Life vs General Insurer.
• A lot of emphasis on Capital Add-ons being used "only as a temporary measure", which will ultimately allow firms to PIM/IM or de-risk. They are however "patient and realistic" on how quickly that change can be done, so it sounds on the face of it like 2016 and 2017 will be targeted for Capital Add-on elimination.
• In the following session on models, a piece came up on Capital Add-ons, where the PRA confirmed that their process for handling these in future is "still developing", though they expect them to be "a lot, lot rarer" than the existing regime of ICG.

Internal Models

Calendar also provided for IM firms (slide 4), showing how tight their schedule is, and explaining why they threw the earlier curveball about all firms expecting to drop their applications in on 30th June 2015. They also touched on the following:

• Highlighting weak areas identified to-date such as over-optimistic (new?) business plans being used in capital calculations; ENIDs; omission of certain "Key Risks", and suspiciously low correlations
• That Use Test is "fundamentally important", and is an opportunity for firms to "put their money where their mouth is". They do not expect to see either end of the use spectrum i.e. no use, or blind use!
• Too much technical actuarial validation seen. Usefully suggested that validation questions may be better posed as "where might this model be inadequate", rather than "why is it OK".
• Confirmed that the PRA's SAT has now been replaced by EIOPA's CAT, which won't arrive until the back end of this year - surprisingly, no-one laughed when they said this "might create some work" for existing IMAP programmes!
• Importantly, they stressed that their powers are to Approve or Reject applications, with no "conditional" powers whatsoever. Attendees were therefore encouraged to delay applications which were thought to be unlikely to succeed, both now and in future.

Though they instinctively feel like they could have been supplied sooner, the clarifications provided in the presentations I witnesses will be hugely welcome by programme directors and PM's alike. I would venture a guess that they will be less welcome by executive committees, who may have hoped for more flexibility on the risk quantification front post-2016.

ORSA and Independent Review - Misunder-stud?

Independent review of ORSA
- banging the drum?

I listened in on a Solvency II readiness webcast a couple of weeks ago which pricked my ears like a low-budget high street beauty parlour. The specific theme was independent review of ORSA, and the broadcaster confidently included it in the list of "things we all need to do" in the Solvency II preparatory phase, both 2014 and 2015.

While most familiar with the topic would immediately cry "that got lobbied out in 2011", the speaker's argument was that, while EIOPA's Guidance no longer says firms should "independently" review its ORSA, it also doesn't not say it, therefore we must do it, and do it annually!

I would have chuckled and left it at that, but having read InsuranceERM's recent roundtable on preparations for Solvency II, the topic again reared its head, albeit in a more controlled manner, as a number of attendees explained how they have used Internal Audit (and dismissed the idea of using external firms) in reviewing their ORSA processes during the preparatory phase.

My problem is this - as an industry we were happy to, erm, relieve ourselves and moan when CEIOPS's first attempts at ORSA Guidance in 2010 included a guideline which compelled annual independent review of the ORSA Process (included in slide 32 of Mr Bernadino's pack here in Summer 2011, as I can't find the original CP anywhere).

This was lobbied-out by the time the re-badged EIOPA released their 2011 CP (here), and when their Final Report followed in June 2012, "independent review" was a distant memory.

Any compulsion to review the ORSA Process is now  covered only by EIOPA's System of Governance Guidelines (here), specifically Guideline 8 asking that a firm's SoG is regularly "internally reviewed on a regular basis" (5.11).

EIOPA continue in 5.11 that "...the review undertaken by the internal audit function on the system of governance as part of its responsibilities can provide input to this internal review" - i.e. this is not work considered to be performed automatically and exclusively by one's Internal Audit function.

In terms of frequency, EIOPA elaborate in section 4.26 of the Guidelines, namely that your AMSB, given your firm's nature, scale and complexity;

...determines the scope and frequency of the internal reviews of the system of governance

 So three things - no 'annual' requirement; AMSB's choice on frequency; and that this is internal review, not "independent", "external", or indeed any other word which gets me contracted past 2016!

Central Bank of Ireland and ORSA - fancy a bunch of FLAORs?

So the Central Bank of Ireland went and knocked together an ORSA Reporting tool for the less complex end of the Irish Insurance industry, specifically the "low" and "medium-low" rated insurers. And to think I have spent 4 years railing at the consultancy and supervisory industries for catering for the big boys, while ignoring the immaterial...


2014 FLAORs
- a serious affair

The tool was released back in July, and while it (intelligently?) copy-pastes EIOPA's guidance and dissects most of those words into a set of obvious questions, there are some aspects which are very revealing in respect of where supervisory expectations for 2014's ORSA reporting and process development efforts perhaps are at the less material end of the industry.

They have evidently taken the approach that most large programmes will have used over the last 3 years, namely to deconstruct paragraphs in Directive/Delegated Acts/EIOPA Guidelines in an Excel spreadsheet, and pose them as questions. Not every firm's budgets would have stretched to accommodate even that level of analysis though, so I'm sure the CBoI's efforts have been warmly received to date.

For example, the following elements are very shocking to me, given our proximity to go-live;

• No compulsion for ORSA Policy (and therefore process) to be documented and Board-approved in 2014 (2.3 and 2.4)
• No expectation that the 2014 version assesses one's ability to continue past the 1 year horizon (4.8)

These elements are perhaps revealing as to supervisory planning for 2015 and beyond;

• Asking when the Board approved the results and conclusions - likely to be hunting for evidence in minutes (2.2)
• Asking which personnel/units have been briefed as to the ORSA results - is there a feeling that outside of EXCOM and control functions, the reports won't see the light of day? (3.4)
• Highlight what they are really interested in, in the context of "overall solvency needs" quantification - risk measure, confidence level and time horizon, which feels proportionately light in focus given the detail in Article 262 of the Delegated Acts (4.1).

Some good elements include;

• Uses of ORSA in decision-making process listed in 1.1 - some are directly lifted from EIOPA, but couple of other examples may help focus the mind (I would add that setting "risk limits" feel sloppy, given the legislation uses "risk tolerance limits")
• Ask for a table to be populated with quantitative results for each risk category, but don't prescribe the category names, rather provide the legislative categories as examples - this is how it should be, especially for the smaller firms. (4.2)
• No expectation that the "medium or long-term" capital is calculated at this point - the column provided is marked *OPTIONAL* (4.2) 

Whilst the data gleaned from the template they have provided may be a bit cumbersome, fair to say that CBoI's efforts will be welcomed by both the qualifying firms (as a pro-forma) and the larger firms as an INED guide.

ORSA - Institute of Risk Management special interest group

Of course while I spent the last couple of months topping up my tan in, errrrr, the Isle of Man, some of the guys in the UK and further afield have been building up an endeavour-flavoured sweat on some of the more malleable elements of Solvency II preparation.


Raining 'Mann' - Glorious Manx summer

The IRM as ever have kept the ball rolling, in particular hosting an ORSA session last month. While you can pick your way through the guest speaker presentations for ideas and comfort (one company specific, one consultant generic, and one which S&ST/RST fans might like as a sense check), I was much more interested in the attendee survey.

A whopping 34 replies came in, via which the attendees have delivered a reasonable ORSA landscape mock-up, which may help some of you get matters shuffled in your priority lists, given where your peers claim to be.

I noted in particular;

• ORSA Process overwhelmingly run by the Risk functions (over 90%)
• Just over half going for annual frequency, the rest (who responded) naturally more frequent - doesn't instinctively feel representative, but not all of the smaller firms would send someone down to this!
• Around two-thirds have their "Reports" at 50 pages or less - if we assume that by "report" we mean Supervisory as well as Internal, the PRA won't be too chuffed with that given their comments at the December industry seminar.
• Only a third have submitted draft ORSA Reports to the PRA and received feedback
• Coverage of emerging risk appears to be an area which not only do respondees think is lacking, but has received critical feedback from the PRA

That half have used external consultants in their ORSA work to-date is certainly no surprise. I'd be worried if that consultancy had more than a year's dust on it though, so think hard before you start submitting your 2014 gear!