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Actuaries Abroad
Actuaries Influence New British Regulatory Authority
by Kendra M. Felisky-WatsonAt the end of March, a working party (an English task force) chaired by John Ryan presented a paper to the Institute of Actuaries on Financial Condition Assessment. This paper was commissioned by the Institute to respond to proposals made by the new regulatory authority for financial institutions in the United Kingdom as to their proposed new regulatory regime. This new regulatory authority, Financial Services Authority (FSA), is responsible for all financial institutions, including insurance companies. The FSA is considering regulating an insurer's solvency from a DFA perspective. The paper considers how the actuarial profession may contribute under this new regulatory regime.
Sir Howard Davies, FSA Chair, complimented the actuarial profession in a recent speech to the Insurance Institute. He said that he was "pleased to see that the actuarial profession is rising to the challenge" and he welcomes "the paper on financial condition assessment recently published by a working party of the Institute and Faculty of Actuaries."
The first new requirement within the FSA proposals is that insurers should have adequate financial resources to meet policyholders' claims. This is a positive obligation, rather than the current passive one not to trade while insolvent, and is clearly more rigorous than the existing "snapshot" test of solvency. The second new requirement is that insurers must have documented the process that they have used to ensure their financial solvency. Basically, companies will have to demonstrate that they have adequate resources to meet valid claims, not only if the outcome is as expected, but also if there are adverse developments. The company will be obligated to identify the risks it faces and ensure there is adequate capital or an appropriate response.
The working party wrote an excellent paper describing how actuaries might contribute to the whole process. The paper describes the various roles and tasks required to perform a financial condition assessment. It also identifies skills and approaches required of actuaries and/or others.
To produce a financial condition report, the paper recommends three distinct types of investigation. The first involves comprehensive identification of all relevant risks. The second covers assessment of individual risk profiles for each such risk. The third combines all the individual risk profiles to produce one overall risk profile for the organization.
The paper's authors believe an actuary (either internal or external to the organization) is ideally suited to assume a risk coordination role. However, the authors stress a number of professionals need to be involved if all the individual risk profiles are to be adequately considered.
Not only do the authors provide an overview of a financial condition assessment, but they present a fairly comprehensive list of the risks a nonlife insurance company faces. They then go on to consider whether actuarial techniques are appropriate for assessing each of these risks. The paper also discusses how the assessment of certain individual risks should be performed. Finally, the authors cover the process for amalgamating all the different risks to form an assessment of the whole company. Included in one of the paper's appendices is a case study of how these techniques can be used to prepare a financial condition report.
The discussion that took place after the paper was presented was interesting as well as informative. The Institute was fortunate in that many invited (nonactuary) guests made positive contributions to the discussion (accountants, bankers, FSA representatives). A recurring theme among the comments was the need for a holistic approach with all the professions working together under an appropriate framework. In particular, accountants appear fearful that actuaries will invade their turf.
Another comment was made about how risk levels should be set: by company directors, the FSA/government, or the Institute of Actuaries. Each group has a risk level it believes is acceptable. It is important to ensure consistency among different companies.
The importance of the human element was also pointed out. A thorough assessment of the quantitative risk may be undertaken, but the qualitative aspects of poor management decisions may supersede it.
There was discussion on whether the extensive analysis will be a benefit or burden to insurance companies, but there was agreement that well-run firms should be doing this type of assessment anyway.
The new proposals will be formally presented for comment in spring 2001. The actual implementation of these proposals will not be until 2003. While these new FSA proposals do not require an actuarial statutory role, it is apparent that actuaries are well positioned to be involved in the whole process. This paper has started many people thinking about how to start preparing for these financial condition assessments.