The PRA and Insurer Business Model Analysis - emerging risks into capital add-ons?

A rather revealing "topical article" was pushed out by our pals at the PRA this week, mouthwateringly titled "The role of business model analysis in the supervision of insurers".

I obviously threw my Woman's Weekly professional reading materials to one side in order to see how much juice there was in this particular fruit, and it is certainly worth a glance for anyone in the risk management game, if only for the idiot's guide to Life and General insurer business models it provides!

Ironically, in the Life Insurer case (where they have chosen 'non-standard annuities' as a paradigm-changing product offering), they weren't able to forecast yesterday's scuppering of the UK annuities market in its entirety in their business model analysis!

It actually reads as quite a good case study in how we should be conducting emerging risk assessment against one's prevailing strategy, walking through specific changes in the operating environments of Life and General Insurers driven by both exogenous and endogenous factors.

With the price comparison website example, it is a good example of how a strategic risk filters down into second order risks which require reconsideration. The annuity example shows how the impact of competitors can impact both existing new business streams and the risk profile of one's existing book.

There is evidently an enormous emphasis being paid in the regulator's BMA activity to those grim business school concepts no doubt already permeating your emerging risk assessment processes such as SWOT and PESTLE analysis, as well as what (in future) will be supplied under Solvency II, most notably Profit and Loss Attributions and ORSA supervisory reports. I'm sure we will see over the next couple of years how the PRA's demand for these very sensitive in-house outputs materialises into supervisory action!

What perhaps Risk and Capital Management functions should be particularly cautious of is the leitmotif of the PRA "responding pre-emptively" where they feel that profits are not aligned with the risks insurance firms are taking. The following quote is of particular concern, as I can't see how this and the ORSA supervisory report aren't sharing the same womb (my emphasis)!;

"...the results of a BMA exercise help to inform the PRA's expectations of a firm's financial and non-financial resources. For example, the PRA might raise capital requirements, or require a firm to improve its governance process, to address weaknesses identified by BMA"

Bearing in mind we are months away from the first glut of ORSA material being delivered to Moorgate's finest, is the industry about to fertilise an expensive new world of capital add-ons via supplementary business model disclosure?

I appreciate that it has been emphasised by the PRA (p8) that ORSAs, and their supervisory reports, simply cannot be used to set regulatory capital, but in the context of what is being stated by the BMA team here, would they really be ignored?

Myners briefing on Governance at the Co-op - working class barred from the Board?

Wolf - step away from the door...

A corporate governance story that will echo in the eternity of MBA classes for years to come, the unravelling of the UK's Co-operative Group from the benign grocer-cum-divvy machine into a ying and yang shotgun conglomerate of opposites is proving to be a watershed moment for UK plc, with stakeholders attempting to balance myriad legal, political and ideological considerations in order to both keep the wolf from the door, and preserve the principle of mutuality for its membership.

There are no surprises that the crux of the Group's issues lies in its banking arm, nor that being acquisitive during the financial crisis (here, here and here) has proven to be poor strategy. Keeping the wolf from the door has therefore largely been delivered through the tried and tested combination of begging and borrowing, which the recently departed CEO appears to have delivered with some aplomb.

Governance structures
- choices choices...

However, the Group's hiring of Paul Myners back in December, a man with an extensive collection of t-shirts and hats, to independently review its governance arrangements, seems likely to deliver to the membership a menu of choices as unpalatable as a Sunday skip-dip.

Lord Myners has hurriedly delivered a briefing on his findings to-date, as well as performed some mainstream media duties (here and here), following the Group CEO's resignation last week. This early sighter was seemingly unscheduled, but the manner of the CEO's departure ("a tragedy" in Myners' words) meant that his findings to-date could not wait until May for its full publication date.

Myners has therefore naturally delivered a ruthless and scathing take-down of the governance structure and processes within the Co-operative, while calling out the Board member who are clearly well schooled in how to game the system, as well as the playground tactics/rabbit-in-a-hat tricks that turn "one-man-one-vote" into "one hundred men-all votes"!

Killer quotes

• The group endures a significant "democratic deficit"
• The future of my recommendations lies in the hands of around 100 elected individuals on the current Group and Regional boards, few of whom have any serious business experience and many of whom are drawing material financial benefits from their positions
• There is a phrase frequently used in Co-operative Group circles that the Executive should be "on tap but not on top"
• ...the Group Board has spent far too much time on transactions such as Somerfield and Britannia which have been breathtakingly value-destructive

Observations

• The "exceptional skill and tireless efforts" of the Executive team are cited as the reason for the Group's survival in its current form
• The current governance framework is variously referred to as "flawed", suffering from "acute systemic weaknesses" and having "consistently produced governors without the necessary qualifications and experience to provide effective Board leadership". Ouch...
• That the Groups social goals are not aligned with its strategic and commercial objectives. This is of course less of a worry for its financial services competitors.
• The the Group's "massive scale and complexity" means that a man-off-the-street approach to electing Board members, which may be sufficient for a farmer/grocer co-op, is not suitable.
• Shatters the "myth" that the Group has always been run by lay members, as opposed to those with commercial experience.
• The thought of creating a board of INEDs and lay members is disregarded due to the potential for creating "second-class citizenship"
• Highlights that Co-op's core business of groceries is savagely competitive at the moment (just look at Morrison's and Sainsbury's), so continued ineffective governance could be devastating
• Notes that there have been previously (disregarded) reviews of its governance architecture, which is "long known for its labyrinthine complexity and its disfunctionality"
• Stresses that, due to the current voting structure, acceptance of  his recommendations "...potentially lie[s] in the hands of fewer than 50 elected members". It sounds like they haven't been shy to remind him of that either!

Recommendations

• Halve the size of the Group Board, which will be subject to annual re-election
• Independent Chair, with no previous association with Co-op
• 6-7 INEDs and 2 Executive Directors
• All with qualifications of a similar ilk to its (listed) competitors
• Create a National Membership Council (NMC), with a 12-person executive committee to effectively represent the membership and co-operative principles and values
• The Board to be subject to scrutiny by the NMC, who have the right to be consulted on "key strategic and operational intiatives"
• "Arrangements" to be made to safeguard the confidentiality of information shared between the Board and the NMC (certainly not the case with current arrangements!)

The entire document feels drenched in class warfare and spectrum politics. That rather hideous take from the existing Board on their executive team ("on tap, but not on top") feels like the inspiration of Myners' recommendation for a professionalised, appointed Board, rather than the beer and sandwich brigade which currently exists.

That said, there is thought on the left-wing (here and here) who feel that mutuality and co-operation should remain unsullied by the commercial world, who remain unable to affect much in the way of democratic change in Boardrooms even after the raft of FRC-sponsored guidance released over the last couple of years (though PIRC are trying!). Is one failed attempt to democratise stakeholders best replaced by cherry-picking from a similarly deficient model?

On the basis that I have banged the drum for background diversity in Boardrooms (not just gender or race), and the existing Co-op Board is "diverse" in that respect, I'm left to wonder if I've been barking up the wrong tree. The Board delivered by their existing process is neither fit nor proper, and are able to outmanouevre their executive compatriots armed with little more than a working knowledge of provincial politics and a polyester suit.

Should we therefore use the grey-area of "fit and proper" regulation to ban the contract plasterers, nurses and retired publishers of the world from financial service provider Boardrooms on the basis that they don't have an MBA, and count with their fingers? Or can one make a valid contribution to a financial services Board of directors regardless of the colour of their collar?

PRA on General Insurer Technical Provisions under Solvency II - Taking the "TPs"?

Allow me to take a quantum leap outside of my comfort zone while I pick my way through the PRA's latest Insurance Industry aide memoire, via a consultation paper on the calculation of technical provisions in General Insurers.

This looks specifically at TP calculations with Solvency II in mind, and is aimed specifically at GI firms currently in IMAP. That said, the tone and technical matter covered is an excellent heads-up to Actuarial, Risk and model validation personnel currently active in this space about how the PRA approach to assessing Solvency II compliance is developing.

The document itself reads very much like their last consultation paper release on Deferred Tax Assets, insofar as it is a laundry list of "what not to do" - look at how many times the expression "should not" appears! They have leaned on their findings from both thematic reviews of TP calculations (Life and GI-specific Questionnaires were sent out a year ago) as well as from IMAP and ICAS, so their finding will be well supported by most recent practices in the UK.

The consultation window is pretty short as well, with a mid-April shut-down scheduled, so if you don't like the cut of their jib, you'd better speak soon.

Stand-out points for me included;

Generic


ENID - TP accommodation required

• Expectations of Delegated Acts content are cited throughout, but in terms of the exact date of their public provision, they can only go with "Q3 2014". From what I have seen, there is nothing cited which isn't in the November 2011 draft.
• The abandonment of the term "binary events", replacing it with "Events not in data" or "ENID" - the fait accompli of "binary" (that events which are not in a data set must therefore be extreme and/or rare) is confirmed as unacceptable.  The PRA don't appear to be wedded to the old term in any case, and while the actuarial profession used it liberally in the past (here and here for example), they began a transition away from it late last year (p45 of this).
• "Any data that can have an impact on the outputs of the internal model should be considered to be 'used for the internal model'" (3.19) - important IMAP message across sectors I think!
• There is evidently some concern that firms are thinking of relying on the work of external model providers to meet Solvency II standards, with the PRA confirming that firms may not rely on "...generic validation performed by the model vendor" (3.25). This means that the model validation relationship between IMAP candidates and their third-party providers needs to be much more invasive and aggressive, and needs to start pretty soon!

Technical Provision-Specific

• A large number of points made in the paper relate to over-simplifications, which should help anyone who is struggling with the concepts of materiality and proportionality. These include methods relating to ENID, Risk Margin calculations, Approximations and  the emergence of risk over one year
• Similarly a few tricks of the trade appear to have been scuppered, such as using optimistic business plans for setting provisions, "actuary in a box" methods and assuming improved underwriting performance
• Some substantial focus around the quality and quantity of challenge applied to External Models (focused on third party Catastrophe models in this instance), in particular the challenge of  assumptions used by the provider (3.16-17 and 3.26-28)
• The concept of "cumulative materiality" is introduced in the context of multiple approximations, a concept which I suspect many firms are still struggling with in the context of Internal Model change (2.9)
• An interesting take on the justification of assumptions, with the PRA taking umbridge with firms using "industry standard" or "established good practice" as a supporting argument, rather than using their own risk profile as the basis for support (3.15)
• A section which seems to advocate conservatism, if not prudency, in the setting of sensitive parameters (3.10), as well as advocating the use of stress and scenario testing to make up for ENID when setting parameters (3.2)

Certainly lessons for both Life and GI internal model applicants in here, and the PRA should be congratulated for getting this paper out in good time. I'm not necessarily convinced though that third-party providers of internal model inputs will happily acquiesce with the demands which the industry are being asked to make of them here.

FTSE Insurer results for YE 2013 - Solvency II costs and capital commentary

Don't you just love financial year-end? Accountants and Actuaries piddling and moaning about turning numbers around while the Risk profession change some colours around in some spreadsheets? Ah, the good old days...

Figures - ropey

It wouldn't be fair to say the full year results releases for UK plc's insurers has sneaked in under my radar during a fortnight of incessant Omnibus II crowing - they all announced relatively close last year, so I have been waiting patiently for them to arrive en masse - but it's been a week since the first ones reared their heads, so I figured I would post what I have now and update it later.

We know that to-date, Solvency II preparation has been a pricey job - Deloitte and a couple of blokes who should know better have already thrown around more ropey figures than Thursday night at Zumba - so it's always nice to do a bit of regional backtesting (which you will find below), which totals almost £700m pounds just for the four who have definitively broken their Solvency II costs out!

Standard Life - AR&A

Generic Solvency II

• We continue to closely monitor the development of Solvency 2 and our business is well placed to implement the necessary changes expected to be required before 2016. (p10)
• We welcome the positive steps in the development of the Solvency 2 regime during 2013 and expect our capital position to remain strong following implementation. (p16)

 Cost-specific

• Total restructuring costs incurred during the year were £75m (2012: £114m) which includes £11m related to the acquisition of the private client division of Newton Management Limited...The remaining costs relate to a number of business unit restructuring programmes and Solvency 2. (p145)
• For info, the last broken-out cost Solvency II cost was £59m in 2011

Standard Life - Executive transcript

• "In ICA+ we are the pilot firm" (p23)

Legal and General - preliminaries

Generic Solvency II (nothing on costs yet)

• During the second half of 2013 there was encouraging progress on the development of the proposed Solvency II regulatory regime. We now believe that the worst case scenarios have been avoided to the benefit of customers and the wider economy. While full clarity on Solvency II capital will not emerge for at least another 18 months, we currently anticipate that our Solvency II capital surplus will be no lower than our Solvency I IGD capital surplus. (p5)
• We will provide dividend guidance for subsequent years when Solvency II clarity has emerged. (p5)
• Solvency II is targeted for implementation in early 2016. Revised capital calibrations for long term business provide sufficient flexibility to address many of the adverse capital impacts for UK insurance firms. Challenges remain, however, in ensuring that final implementation is proportionate and cost effective for the insurance sector. (p19)

Legal and General presentation

• We believe that the worst case Solvency II scenarios have been avoided. (p5)

Aviva - preliminaries

Economic capital and costs

• Strengthening our financial position has been a focus in 2013. Our economic capital surplus has increased to £8.3 billion, which represents a 182% coverage ratio and includes our defined benefit pension on a more conservative fully-funded basis. We welcome the progress made by our regulators on Solvency II and the level playing field that this is likely to create. (p5)
• Solvency II implementation costs reduced to £79 million (FY12: £117 million). (p18)

Aviva presentation slides

• Confirms last 3 year's worth of Solvency II costs as £89m, £117m and £79m (p10) 

Prudential - preliminaries

Generic Solvency II 

• We do not expect to submit our Solvency II internal model to the Prudential Regulation Authority for approval until 2015 (p6)
• With greater visibility on the potential outcome of Solvency II, we are reporting an economic capital surplus of £11.3 billion (2012: £8.8 billion), which is equivalent to an economic solvency ratio of 257 per cent (2012: ratio of 215 per cent). This result is based on an assumption of US equivalence, with no restrictions being placed on the economic value of overseas surplus, and using our internal model, which has not yet been reviewed or approved by the Prudential Regulation Authority. (p12)
• We regularly review our range of options to maximise the strategic flexibility of the Group. This includes consideration of optimising our domicile as a possible response to an adverse outcome on Solvency II. (p30)
• Over the coming months we will remain in regular contact with the Prudential Regulation Authority as we continue to engage in the 'pre-application' stage of the approval process for the internal model. In addition, we are engaged in the Prudential Regulation Authority’s 'Individual Capital Adequacy Standards Plus (ICAS+)' regime, which is enabling our UK insurance entities to leverage the developments made in relation to the Solvency II internal model for the purpose of meeting the existing ICAS regime. (p30)

Cost-specific

• £29m Solvency II costs versus £48m last year (and £55m in 2011)

RSA - preliminaries

Generic Solvency II and economic capital

• ...across the various ratings, internal and regulatory measures, we simply do not have enough tangible equity to properly support our business. This is partly due to 2013 setbacks and partly to rising regulatory standards. (p4)
• The Group is actively involved in shaping the outcome [of Solvency II]...The directors are confident that the Group will continue to meet all future regulatory capital requirements. (p35)
• The economic capital surplus was £0.7bn (31 December 2012: £0.7bn) (on a 1 in 1,250 year calibration) giving coverage over the economic capital requirement of 1.3 times (p9)

Cost-specific

• £20m, versus £32m in 2012 (and £30m in 2011)

Resolution - preliminaries

Generic Solvency II

• We are currently discussing our approach to implementation of Solvency II with the PRA (i.e. standard formula or internal model) and expect to enter the process for PRA approval of our internal model (“IMAP”) such that approval is granted before the end of 2016.

Although the final guidelines for calibration of the standard formula approach have not yet been released, our current expectation is that this would not give the most appropriate assessment of our solvency position. We do not currently expect to gain any capital benefit from IMAP, but continue to monitor this closely as further guidance emerges and our discussions with the PRA continue. (p19)

• "Increased non-recurring costs reflecting increase in Solvency II spend" is down as a negative on Free Surplus performance (p9)
• There remains considerable further work to transition the Group across to a Solvency II basis…In the absence of final regulation, we will continue to adapt our plans as specific requirements are confirmed. Nonetheless, as we transition, there will be an impact in terms of the way in which the Group needs to hold capital against a Solvency II balance sheet and we will consider how best to do this in the manner that best serves our customers and shareholders. (p54)

Cost-specific

• Finance transformation costs of £49 million largely relating to Solvency II (p24). This stands up alongside £76m for 2012, and £56m for 2011, remembering that they dropped out of IMAP during 2012, but appear to have been told to get back in!

 



 

Corporate Governance and the Co-op - Never too much?

Another day another maelstrom for the UK's Co-operative Group, with their Chief Executive having his resignation accepted by the Board of Directors, this following on from a truly extraordinary story from late last year, where the Chair of its banking arm was caught in a drugs and prostitutes 'sting', which in itself followed an earlier uncovering of a £1.5bn capital hole in the banking operation!

The Group CEO, Euan Sutherland, said in a statement that without "professional and commercial governance" it would be "impossible" for him to execute the changes he had planned. A 55 page rulebook, for a Group that has six million members, doesn't feel like too much on the face of it for a man with his CV, so I was interested to see what the story behind the story was.

"Professional and commercial governance"
- Say it twice, say it thrice...

The boiling point appears to have been the leaking of details around the CEO's proposed pay packet over the weekend, which materialised publicly in a stroppy posting by him on the Co-op Employee Facebook page, pointing fingers at colleagues trying to "undermine me personally". His only-recently-active Twitter went quiet after a bout of February activity, so perhaps his attentions have been on this matter a little earlier...

The Co-op has been as leaky as a porcupine's waterbed recently, with this snippet regarding outcomes of their "top secret" self-commissioned Board review, supplementing other sensitive leaks over the last year reported here and here, so clearly there are plenty of disgruntled paper-handlers in this unique organisation.

Regardless of the well-connected source though, a quick glance across the numbers leaked to the Guardian would be enough to sponsor a sharp intake of breath for anyone in financial services (a £2m pay-off for a HR head leaving after a year? Will Hutton breaks it out in this post, and the mind boggles!). That said, take a look at these terms of reference for the Co-op Remuneration Committee and tell me where you have seen self-perpetuating pay-puffer terminologies before: every other financial services provider perhaps?

The knives were out from early on with regards to the financial arrangements of Sutherland's new team though, with the spectacularly generous relocation package for one of his lieutenants drawn out by the press soon after his hiring. Perhaps he put some noses out of joint with his remarkable show of sartorial disdain on his first day - "...I came in, walked into this brand-new building, and I was not wearing a tie" - but he did say a few other things in that early-days Telegraph interview which appear to have turned around and bitten his kitten, such as;

• “It’s very valuable to have customers in the boardroom. And for the first time I think the group board felt they were involved in strategy.”
• “There have been some very big issues that we’ve worked through [with the board.] Not bank issues, other issues”

The thread that appears to be emerging for this Group is that its uniquely assembled Board is ill-equipped to deal with such manners in a technically professional and rigorous format, whether that be rolling over for the previous leadership while they made a string of horrendous strategic decisions, or the huffy, juvenile leaking of sensitive data when the new team has come in.

This is not to say that using mutual-style democracy to elect a functional Board of Directors can't work, but perhaps it doesn't work in financial services, where the stakes are higher, the jargon is less penetrable, and failure is catastrophic. I could certainly pick through the list of values and principles and find a number of institutionally-appropriate excuses for leaking confidential paperwork

From a pure decision making perspective though, should the shop-floor proles be allowed to mix with the MBA-laden executive class of the 21st Century corporate world in a way that affords this particular entity the luxury of competing against their more cut-throat rivals, while sticking to those core values and principles while paying off their massive debts?

If Lord Myners pulls a solution out of the bag for a quid (and he doesn't sound like he's shrinking to the task), they'll surely have to promote him to Marquis!

Omnibus II Plenary Passage finally complete - sealed with a sneeze...

I'll keep this post petite et doux, just like myself - Omnibus II was passed through the EU Parliamentary Plenary vote today by 560 votes to 113 against (11.18am on the scrollable text on BBC). Never in doubt...

While Burkhard Balz was naturally exultant in his victory speech, there should be little surprise that the opposition to the amended text was skippered by Sven Giegold, who continues to hold the line that the industry and member-state lobbyists have gotten too-sweet a deal, and calling the resulting compromises "actuarially questionable" (at least that's what Google reckons "versicherungsmathematisch fragwürdig manipuliert" means!). If this is the Green Party line, it may make up the majority of the opposition number.

Emerging from the debate is also the rather unsubtle signalling of what the delegated acts should contain (proportionality in particular), an acknowledgement of the dire state of legislative practice in this instance, and even a few words on keeping technical standards out of Parliament's hemisphere from the Croatian contingent (welcome to the party!)

Herr Balz signed off with a promise to "concretize" proportionality within the acts (thanks again Google!), but not before reiterating that the changes compelled to insurers' capital bases by this version of Solvency II are "sicherlich kein Pappenstiel"...

Gesundheit!

Omnibus II preparations - quick note on the evasive ECON amendments

Just a quick weekend note before the Omnibus II-related fun starts for all us Solvency-II enthusiasts next week.

It didn't feel like much was doing this week on the run up, but then Practical Law published a note last night to say ECON had been tampering with the Omnibus II text. Bearing in mind there is at least one notable dissenter on the existing Omnibus II compromise within ECON, it would be nice to see exactly what ECON have tabled.


EU Transparency - just add oil

I have been onto the ECON site, and ferreted through the agendas and publications from their last few meetings, but have found nothing (for "amendments", I figured this was the most likely source, but I have come up with nothing).  I find the more you look for paperwork in EU institution websites, the less you find - as transparent as a tar-soaked binbag, and more's the pity.

One thing is for sure - the deadline for tabling amendments was lunchtime on Wednesday (item 1), so whatever was sent must have got there by then. We can also see that a "rule 142" special has been added to the Plenary agenda, presumably to help shoe-horn a vote through if the debate gets a little fractious.

That said, in IMD2 we have recently seen a piece of financial services legislation get bounced out of Plenary and back to trilogue regardless of the forthcoming Parliamentary elections. Will "rule 142" come to the rescue, or will we be kissing 2016 goodbye at lunchtime on Tuesday?

Board Diversity - should gender and ethnicity have a quota?

Having seen a few snippets in quick succession on the matter, I figured it was as good a time as any to revisit Board Diversity, the gift that keeps on giving...headaches to Legal, Compliance and Company Secretarial departments all over Europe!

My initial interest in the matter was piqued by the potential dichotomy between having a Board that was "Fit and Proper" in the context of Solvency II or indeed the myriad Corporate Governance Codes within Europe, and the simultaneous push within the EU for setting quotas for a minimum percentage of female representatives on Boards.

Certainly a couple of years back, it looked like companies may be faced with a choice of meeting any gender quota (but with a Board that was not "Fit and Proper", if only due to lack of Board-level exposure and experience), or simply thumbing their noses at the quotas. The UK's current informal approach recommended by Lord Davies suggests that, while progress is being made on the gender front specifically, there is no danger of radical positive discrimination in order to meet a quota, regardless of who sets it.

I have therefore rather caustically covered the topic on previous posts (here, here and here) due to the hijacking of the word "diversity" as actually meaning "gender diversity" - seulement! There is evidently nowhere near enough working class (or working class origin) representation on plc Boards, not to mention ethnicity, disabilities and people who have served coal-face time in not-for-profit or charitable sectors - do they get a quota too?

All levity aside, there are rumblings from the UK Labour party that perhaps gender isn't the only quota worth talking about, floating the idea of ethnic quotas should they be elected next year. Bearing in mind the shamefully unrepresentative gender and ethnic make-up of the British members of parliament, and the triteness of his leader's behaviour when white-bloke hunting at PMQs the other week, he may wish to turn his attentions closer to home. That said, if the diversity debate has broken out of its gender-soaked malaise, it is cause to celebrate.

Dude? You're barred...

InsuranceERM have (unwittingly?) helped to perpetuate the idea of "diversity" being a debate that is overwhelmingly about gender in a recent round-table centred on how the Insurance industry "...can become more reflective of society" - which had no dudes in attendance!

While I certainly wouldn't argue that Insurance was, is, and will continue to be the "domain of the white male" for the foreseeable future, can that be remedied by excluding said males from a conversation on inclusivity of all things?

While the conventional pros and cons were discussed about Golden Skirt-style quotas, mandatory shortlisting of women for senior positions and mentoring, the child-rearing-sized elephant in the room was also tabled. The prevailing opinion seemed to be that it is encumbent on both employers and women to do a bit more during that phase of life to maintain career progression.

Had my two cents been sought (heaven forbid!), I would have added the "H" bomb into the mix. As a husband who works in another country from my family home, I personally offer an additional constraint to my wife's career every single working day, and one thing which won't change between generations is that one partner generally has to "take one for the team". Do the significant others of UK plc realistically provide more of a constraint on career development than any of the factors discussed by the InsuranceERM panel?

I would also have referenced Britain's blue-rinsed demographic timebomb, caring for infirm relatives, in this context, a job that most men manage to avoid, even when it's their parents! I have no first hand experience on the matter, so am reluctant to do more than float the idea, particularly when high-achieving female talent may have the means to outsource such activity.

Progress on the diversity issue therefore remains clunky, piecemeal and gender-obsessed. With every Lloyds (voluntarily?) taking the initiative, there is a Glencore or LSE who manages to clear the decks!

I certainly hope to see some progress on the gender percentage front soon, if only to hit a target so that we may switch the debate back to genuine diversity. With the topic gaining traction across the pond, maybe we won't have to wait too long.

"Implementing Measures" to "Delegated Acts", "RTS" and "ITS" - Unsporting Lisbon...

How to make sense of post-
Lisbon legislative processes

OK, I have finally broken. I think it was a paragraph that had the words "acts" "delegated" "implementing" "regulatory" "measures" and "standards" strewn around like the gin-soaked occupants of a broken carousel that got to me.

The transition of Solvency II-relevant terminology from pre-Lisbon to post-Lisbon, and the lack of clear supporting material to aid the understanding of an idiot prole like me, has led me to have a stab at clarifying it myself, in the lead up to the Omnibus II vote in a couple of weeks.

The fundamentals are easy enough - the 2009 Treaty of Lisbon aimed to put Parliament and Council on an even keel in the decision making process, and get things done quicker. Lisbon was enacted around the same time that the original Solvency II Directive was coming in to land, so naturally any Lisbon-inspired changes in how EU legislation is made and maintained would need to be factored in to the wording of the Solvency II Directive when convenient.

Coupled with this was the European Union's decision (post-credit crunch) to develop a new architecture of financial supervision, which allowed EIOPA to rise in 2010 freshly armed from the embers of CEIOPS with new legislative drafting powers, changing the comfort blanket of the existing 4-level Lamfalussy process into something much trickier to fathom.

There was therefore plenty to factor in when Omnibus II, the tidying-up vehicle, was first envisaged  (covered nicely in this blast from the past from Freshfields), most prominently;

• EIOPA's ability to draft and recommend "technical" standards which could become law without Parliament and Council having a blocking vote - as CEIOPS, they would have only had an "advisory" capacity.
• The EU Parliament now being in a position to suggest that certain "technical" matters were actually "political", thus bringing some of the granular mathematics (specifically, Long Term Guarantee-related) back into their sphere of influence during the trilogues - without co-decision making, this would have been much trickier.

To supplement any confusion that might arise in the Lisbonising of the Solvency II Directive, there has been an opportunistic replacement, recycling or bastardisation of terms from pre-Lisbon over to the current day, without an effective mapping (this is by far the best offering I've seen, from Herbert Smith Freehills). Therefore for my own benefit, I have broken it down, and any benefit you can derive you are most welcome to!

Old Term - Implementing Measures (or "Level 2 Text")

New Term (part 1) - Delegated Acts

Why New - Comitology was the process of the Council and Parliament leaving Commission-led "committees" to deal with the development of secondary legislation to sit alongside core legislation (Solvency II Directive in our case). For years, Parliament was largely out of the loop of its drafting, receiving a Yes/No vote on such legislation only as late as 2006.

The post-Lisbon move from implementing measures to Delegated Acts gave Parliament the right to veto and amend drafts of secondary legislation. The European Council have the same powers. The delegated powers can also be revoked if either co-legislator doesn't like the Commission's tone.

The Commission, who remain responsible for developing Delegated Acts, have the drafting powers delegated, via article 290 of the TFEU. They continue to receive assistance from expert committees to create this material, with EGBIP assembled last summer to advise on the Delegated Acts side of things.

What does it really mean - not much on its own, however the new process is proving to be just as opaque and convoluted as it was previously (covered nicely here). It evidently means that influencing the content of Solvency II's Delegated Acts remains in the hands of a chosen few, for example, when Dr Wiedner noted (in AOB) that 'Member States' will get to see draft Delegated Acts before they are finalised in trimester 2 of this year, I think he meant the representatives in the room, not us!

This shadowy future was nicely predicted here back in 2011 - a less efficient process, less formality, less visibility of legislative influencers, and more horsetrading than bank holiday barbeque weekend at Tesco.

Old Term - Implementing Measures ("Level 2 Text")

New Term (part 2) - Implementing Acts

Why new - The concept of "Implementing Measures" has effectively been cut in half, with Implementing Acts very much a sideshow in the context of Solvency II - the Herbert Smith Freehills paper referenced above states that implementing acts are only referenced in one article of the Directive.

These are drafted by the Commission through powers delegated via article 291 of the TFEU, and the distinction between Delegated and Implementing Acts is shown here.

What does it really mean - nothing of consequence it would appear!

Old Term - N/A

New Term (part 3a) - Regulatory Technical Standards/RTS/

"Level 2.5"

Why New - EIOPA were empowered through the 2010 "EIOPA Legislation to draft technical standards on behalf of the Commission which would ensure consistent harmonisation of Solvency II across the Union. These kick in formally as soon as Omnibus II gets through.

A huge step up from their previous guise as CEIOPS, where they were little more than a sparsely staffed lobbying aggregator, Regulatory Technical Standards (RTS) are directly enforcable in Member State law once approved.

RTS may only be for technical matters and "shall not imply strategic decision or policy choices". These are published for public consultation, then submitted to the Commission, who can adopt, reject or amend them.

Both the Council and Parliament receive the draft RTS at the same time as the Commission, and have limited windows in which to object to their content. A specific "sunrise clause" has also been added to Omnibus II which allows the Commission (for a limited period) to circumvent the RTS process entirely and deal directly with certain matters without EIOPA involvement.

What does it really mean - For both RTS and ITS (below), EIOPA, as pen-holders, have had a significant amount of influence placed in their hands with respect to what "uniform conditions" are, and how they should be enforced.

As we have seen in recent consultations, EIOPA do not tend to change their minds, which may perversely make life easier (or at least more certain)!

Ultimately, the reality of "Level 2.5" is that the co-legislators have lost much of their ability to influence or veto acutely technical material, further distancing Solvency II's amendment and approval from Parliament and Council, into the hands of unelected, quasi-autonomous technocrats. Which can only be a good thing...

Old Term - N/A

New Term (part 3b) - Implementing Technical Standards/ITS/"Level 2.5" text

Why New - As with RTS, Implementing Technical Standards (ITS) are directly enforcable in Member State law once approved, and follow the same drafting process. EIOPA's scheduled work in the "Level 2.5" space is of course ITS, not RTS, in the run up to 2016.

Risk.net have tried to cover the distinction between RTS and ITS Standards here (subscription required), but it is not even massively clear from the Regulations which empower EIOPA!

The crucial difference is that ITS, once adopted by the Commission, receive no further scrutiny, unlike RTS, where the co-decision makers can still object after the Commission adopts.

What does it really mean - The reality of the legislative process means that even in the sticky-beaker's paradise of Solvency II, Parliament and Council do not have the time or inclination to argue the toss over this material, so will hopefully leave EIOPA and the Commission to it.


Hard to conclude this post really. For sure we have been unlucky to have bridged the Lisbon divide, as well as the genesis of EIOPA and the realisation midway through proceedings that some of the "technical" matters had immense political significance.

That said, the legislative path we have set Solvency II down for the last few years has made a mockery of the best laid preparation plans within the Union's insurers. Andrew Tyrie MP really hit the nail on the head...

Omnibus II and Delegated Acts - state of play summary (before it gets interesting!)

Unless you've been hiding in a cave since last summer, you shouldn't find anything new in this post, but I wanted to accumulate all relevant materials into one place for the run up to Omnibus II D-Day for my own convenience, and you're welcome to share.

At the moment we have;

European Parliament

• Omnibus II Plenary vote is still  scheduled for Tuesday March 11th. The Plenary page is here, but the forward agenda is not available, despite draft agendas apparently being due a month prior to Plenary meetings (suspicious?). There doesn't appear to have been any recent parliamentary agitation, from the steaming-mad Green contingent in particular, to suggests Omnibus II will get derailed at this point.

European Commission

• I'll cover the fineries of this on a separate post, but worth noting that the Commission's "draft implementing measures" document, which have been circulating for over 2 years, is now referred to as "Delegated Acts", after being Lisbonised.
• A revised draft of these rebadged Delegated Acts, on the assumption that Omnibus II gets through Plenary, will be delivered like an impatient baby in the deuxieme trimestre of this year (p21). 
• It apparently not be made available to the proles for public consumption beforehand (reported here and here). Still plenty of time for the faceless exponents of dark arts and back-room shenanighans to influence its content, so the lack of formal consultation is not necessarily a calendar breaker, though it is exceptionally poor form. 
• The Commission's advisers now come in the form of EGIBF (for Delegated Acts) and EIOPC (for Implementing Acts). EIOPC are evidently a garage without a car at the moment, having not published a scrap of material in 15 months while Omnibus II dragged its heels. 

EIOPA

• EIOPA's work on implementing technical standards is due to be released from April, in a phased manner.  I don't think that the activity is Omnibus II-dependent as such, even if EIOPA's influence is a little less formal without it!

Obviously as a practitioner in the Risk field who doesn't want to wallow in the details of European Union lexicon, the forthcoming spurt of activity is considerably murkier than it would have been pre-Lisbon. Virtually every relevant term or participating body in the Solvency II hemisphere has had a name or remit change in the interim, and I'm not seeing anyone offer a mapping between "Pre" and "Post"-Lisbon terms.

I'll have a stab on a separate post, for my own sanity if nothing else.

PRA's Pillar 3 Industry Working Group - the horsetrading begins...

The PRA have at last released the materials from their pre-Christmas Pillar 3 industry working group, which should provide a little cheer to anyone working in that space, and indeed the vendors who are manfully trying to supply software solutions to address it.

The materials include;

• A "record of the discussions" (definitely not 'minutes'!) 
• A Pillar 3-specific Q&A
• Some feedback on the industry data collection exercise held in May 2013 (details here)

As I mentioned in a previous post, these materials were due for publication 12 working days after the meeting, and the lag had me a little bit concerned that the debate had taken a terrible turn! It wouldn't appear so on review, but I thought the following issues were worth flagging;

From Q&A

• National-specific template consultations will start "at earliest" in July 2014
• Suggest that dialogue between firms and the PRA will aid the appropriate application of proportionality up to 2016
• Suggest that firms "regularly check" EIOPA's website for relevant material, as well as stating that they will update the Q&A doc. Both of these things lead to a "pull" of information by individual firms rather than a co-ordinated "push" by supervisors and rulemakers, which I find displeasing.
• EIOPA will be expected to provide definitions of any ambiguous terms
• PRA will not publish a reporting timetable in the preparatory period
• Smaller firms will not be allowed to submit material in a format other than XBRL

From "record of the discussion"

• Myriad issues tabled regarding interactions with external parties (ratings agencies, data vendors, asset managers)
• Range of assumptions, simplifications and materiality calls already being made in the absence of definitive guidance or supervisory college "party line"
• Publicly disclosed QRTs listed as an area where "more information is needed" - the PRA expect the Implementing Technical Standards to cover these in more detail. 
• XBRL - Final templates for preparatory phase are due in May 2014. The final ones for Solvency II itself are due in December 2014.
• The industry flagged their issues regarding XBRL solution vendors and the poorly taxonomised templates as they stand. The PRA therefore asked for specific examples of what might be compromising lead times and budgets.
• There are some open ended questions at the back of this document which are for the PRA to answer at a later date.

From Data Collection exercise

• PRA confirm that in most cases, the information submitted is being used "to inform ongoing supervisory work" as a minimum.
• Some general insurers submissions were incomplete, while some life insurer submissions either did not segregate their with-profit and non-profit funds. This is seemingly less than helpful while the PRA struggle to calibrate their Early Warning Indicators (more on that here and here).
• A clear supervisory focus on the standardised risk information submitted around the tails of the distributions and diversification benefits - you've been warned about taking liberties already UK and Ireland!

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;

• The Internal Model Validation presentation delivered by a PRA representative to the Institute of Risk Management's Solvency II group, which publicly elaborates on the topic more than anything I have seen on the PRA site.
• The apparent failure of the PRA to follow their own Terms of Reference for their recently convened Regulatory Reporting Industry Working Group by not publishing the minutes of the December meeting yet. The TORs say 10+2 working days, and I can't find them anywhere!
• The recent overwrite of the PRA's initial response document to EIOPA regarding "comply or explain" for EIOPA's Preparatory Guidance, which has not yet been "explained" to the industry they oversee! (Well spotted John Walton)
• The almost diametrically opposed position which BaFin have taken over in Germany, where they unequivocally lay out their intentions regarding "comply or explain".

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?

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.

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.

Proportionality

• 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.
• "...no 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

Trilogue

• 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!