Clear Path Analysis - Interview with EIOPA's Montalvo

The guys at Clear Path Analysis have come through with another suite of exclusive Solvency II material, following along from their efforts in September 2012 and 2011 (sign up required if you are not already hooked up with them).

This is dominated by asset allocation and Pillar 3 requirements, and I'll cover through those in due course. It was the interview with Sr. Montalvo from EIOPA which immediately caught my eye, so I picked the following bones out of it:

• Solvency II is "...nothing more and nothing less than a risk-based supervisory framework"
• Solvency II "aims to be a neutral system" with regard to asset allocation
• "The new framework creates business opportunities rather than operational risks"
• "No Pillar prevails, all are equally important" 
• The capital weightings on asset lines are based on "...sound technical calculations that were taken by the supervisory community (and in particular by the actuarial teams involved)" - is this a tacit acknowledgement of a residual element of black-boxedness?
• On IFRS convergence "...we had to move forward because in the accounting areas progress was not being sufficiently made". 'Aimerez-vous rencontrer M. Kettle, M. Pot?'
• On early implementation, "...once we see how it is working, [EIOPA] will have the courage to say which things can be improved"

Perhaps his sweetest quote is worth isolating:

Clear Path Analysis - Solvency II "The Global Dimension"

This piece of research from the guys at Clear Path Analysis (sign up required) has been in the offing for a while, and as I covered their last impressive release on this blog (and I don't have a life :-( ), I've been looking forward to it...

There is certainly plenty in here to keep those of every persuasion entertained (with the sponsors as omnipresent as their funding permits!), but I've sectioned out highlights for my own benefit;

Foreword

• Solvency II "...clearly a step in the right direction" - oddly, not followed by a punchline...
• On the likelihood of Sol II remaining ahead of the IAIS approach to solvency regulation - "Asia no longer looks to the west for regulatory best practice", going on to cheekily recommend a cherry-picking approach

Barbara Ridpath - think tank CEO, on short-termism and regulation

• Highlights one (widely acknowledged) consequence of Solvency II being a disincentive to invest in long term and/or non-Sovereign debt instruments, which is not in the mandate of the regulations, or indeed the regulators.

Roundtable on un-level playing fields between EU and non-EU insurers - includes Standard Life Sol II lead

• Solvency II likely to weed out companies who can't handle the ongoing compliance cost from running EU operations
• Large piece on Canadian equivalence (of particular importance to Standard Life of course) and the practicalities of equivalence being neither sought nor at this point offered for a non-EEA wing of a EEA HQd insurer.
• Standard Life not happy with equivalence assessments running concurrently with IMAP, due (rightly) to the significance of a "yay" or a "nay" to the strategic thinking around non-EEA arms.
• Suggestion that Asia is looking harder at the IAIS approach as opposed to Solvency II for future direction

Data and Risk Reporting Interview - Dan Wilkinson, ERM head at Liberty Syndicates

• Increased formality around Data and Risk reporting, using both controls-focused and risk-focused approaches. Makes reference to a monthly management committee which takes reporting on data deficiency matters, which I have heard reference to on the circuit before, and certainly demonstrates that data inputs, whether for internal modelling or for strategic decision making, feature as a high priority, rather than taken as read.
• Notes that his employer is moving risk reporting away from the 1-in-200 VaR to "...more foreseeable points in the distribution", which we definitely like to hear in the ORSA world!
• Alludes to concerns around disclosing ORSA-related information to the outside world, which is an area yet to be adequately chewed over by regulators and industry quite yet, let alone ratings agencies, analysts etc
• "Sensible amount of proportionality" should be adopted when deciding what should be disclosed - is that a contradiction in terms, an oxymoron, or some other expression I can't quite lift off of Google!
• Sensibly stresses that an effective emerging risk policy should allow input and challenge at all levels of an organisation, when asked about internal models evolving with the risk profile of the business.
• "...biggest deliverable is cultural" - i.e. stripping back your long-since-gone consultancy friends' technical documentation (where required) in order to make it more accessible and free BAU staff to use the new facilities, be it a spruced up RMF or a full Internal Model - appreciate I may be doing myself a disservice by highlighting it!
• Didn't agree one bit with the comment that ORSA could "...inflate regulatory capital, based on rather speculative assumptions" - FSA have been pretty clear that ORSA has no bearing on required capital, appreciating the nuances around what they say and what actually transpires!
• Also wasn't massively sold on the comment that the ORSA "...should bring together information that is used within the business to allow analysis of medium term trends", unless of course he was cut off mid-sentence!

"Challenges of Pillar III" roundtable, focused seemingly on getting asset managers to pull their fingers out! Includes a CRO from an Italian insurer

• "Asset managers who are not willing or able to invest in appropriate data management and reporting systems will find it hard, if not impossible, to attract or retain insurance clients" - so there!
• Suggestion that "parts of the industry will have to get up to speed on" underlying assets which they are currently invested in for the look-through basis - I suspect that there are plenty of horror-stories to emerge once some CIOs and CFOs get a proper butchers at what some of their collectives are actually invested in, particularly with the advent of outsourcing investment management or just administration over the last decade or so...
• Note that ratings agency priorities over the near-term may focus more on differences between SF and IM-calculated SCRs and the impact of transitionals, rather than purely on SCR outcomes.
• Note that "Solvency II is effectively a lead in this area [transparency]", so no pre-conditions should be expected from ratings agencies
• Even bring up the old gripe that EEV/MCEV is still not understood well enough by agencies/analysts, so by implication there should be few worries about additional disclosures!

Considerations for Building a Diversified Investment Portfolio - Charles Pears from Insight Investment

Really accessible and well structured two-pager on portfolio diversification, of particular use to non-experts which covers

• Rationale for insurance companies looking for low risk returns;
• Risk drivers which make that difficult in today's environment, even if accepting minimal risk
• Why companies may look to seek excess returns, and the constraints around that
• Why decisions to accept more risk for enhanced rewards should be (but perhaps aren't always) knowledge based
• Basic options for enhancing portfolio returns without breaking the bank from a capital perspective.

Interesting is wrapped up with a comment that "...we expect insurers who adopt a Liability Driven Investment approach will secure a meaningful competitive advantage" - hard sell perhaps, but the rationale for it is well documented here.

Barnier speech to the Insurance Europe conference

Msr Barnier put a few words out for the great and good the other week at the Insurance Europe conference, which have finally been published for the proletariat on the EUROPA website this week. As well as touching on the conjoined matters of IORP and IMD, he wades into Solvency II in a pretty forthright manner (driven by the increasingly fractious and desparate attempts of the EU to jump-start economic growth, and what the Insurance industry can do to aid this), noting;

• Solvency II should not prevent or discourage investment in certain asset classes per se
• Insurers with long-term guarantees should therefore be rewarded (via a reduced capital burden) for investing in long-term assets, and that Omnibus II should mop up outstanding concerns from individual countries.
• That politically, the EU Parliament has had plenty of time to reflect on Omnibus II, and their tardiness has ultimately led to the need for Solvency 1.5

Interesting to see real world politics and probles interacting with the legislative timetable, and in particular how quick the Commission have been to point the finger at their Parliamentary pals when under duress!

Economist Intelligence Unit - new Solvency II research on Insurers and Society

Our pals at the EIU (kindly sponsored by BNY Mellon) have published this new research on how 'regulation'  affects the insurance industry's ability to fulfil its role in society (no prizes for guessing which 'regulation' in particular this focuses on!).

It has a more cross-professional angle than other EIU releases (here, here and here for example), which is a by-product of BNY Mellon's sponsorship, looking more at changes in capital allocation and derisking which are likely to be by-products of Solvency II implementation.

Sample size is pretty good at 254 respondents, all EU based, mostly Financial (72%) or Risk (24%) professionals, and nicely spread across the continent. They split the results into Insurers, Other Financial Institutions and Non-Financials, which is handy to see where divergences in the comprehension of Solvency II's impact are. I noted the following on the way through;

Solvency II Directive and impact on capital

• Only 16% disagree that Solvency II "goes too far" in ensuring capital adequacy
• Life Sector respondents more equivocal on whether "most" insurers already have sufficient capital
• Great table on p14 for Solvency II asset popularity (or not!) by asset class, supplemented by an insurers-only version on p 15

Policyholders and products

• 73% feel that policyholders are going to bear the costs (over 80% when just insurers are considered) - I think I have flagged this previously!
• Half think that the (inevitable?) shift to providing more unit-linked business will have a negative affect on pensions and savings
• 67% of responsdents have life insurance down as a product which will be "most negatively affected" by Solvency II
• Less than a quarter disagreed that With-Profits products would be valued in the current market, but have been driven out by accounting rules and capital charges
• Over half feel that the "squeezed middle" of smaller insurers and mutuals will consolidate to achieve scale, or indeed outsource (though not clear on whether this means administrative functions to reduce overheads, or something else).

Balance Sheet de-risking

• Hints at knowledge gap between corporates and insurers regarding the impact of insurers being overcapitalised (corporates favouring additional capital being held by insurers for additional security).
• Divergence between non-financial and financial institutions regarding how important rating and tenor of debt issuance will be in future (non-financials seemingly less concerned).
• Similar divergence around whether unrated debt will be forced to pay higher yields to appear more attractive to insurers (p18) - insurers were by some distance less convinced than other financial institutions and non-financials, so clearly a perception issue there.

Capital charges

• Half want the risk-free aspect of Eurozone government debt to be revisited (which Omnibus II has promptly obliged!).
• 41% want all capital charges reconsidered as they stand,  while only 22% would like them maintained as they are (down to a trifling 9% when measuring just insurers). Can this level of displeasure really stand during the trialogues?

Some smart general comment throughout by some "expert" talking heads, which expands on some of the conflicting responses.

Another worthy piece of research from the EIU, and hopefully will be wielded by the trialogue parties accordingly.

Fitch on Solvency II - Asset Allocation

Fitch pushed out a paper on Solvency II's implications for Asset Allocation - well worth a read if you are a Pillar II & III dweller like I am (registration required, but free), as it simplifies a lot of the key areas that will drive strategic decision making outside of one's qualitative comfort zone, and will certainly help on the ORSA/Model validation front.