Insurers must accelerate their Solvency II asset allocation programmes if they hope to qualify for the matching adjustment, according to new information published by EIOPA.
On April 1, the authority released the first set of Solvency II implementing technical standards (ITS) for public consultation. These are legislative provisions defined by EIOPA and endorsed by the European Commission that explain the conditions of application for a range of Solvency II measures including the matching adjustment, which offers insurers capital relief for long-term liabilities backed by assets with matching cashflows.
One of the conditions is that firms seeking supervisory approval for use of the matching adjustment must base their application on how they manage the relevant portfolios in the present, rather than on how they intend to manage them in the future. EIOPA notes that an approval process based on prospective portfolios "is incompatible with the level 1 directive". Experts say this condition will encourage insurers to speed up reallocating and restructuring their asset portfolios so that they qualify for the matching adjustment.
Emily Penn, head of UK insurance ALM advisory at RBS in London, says: "The ITS draft should accelerate firms' work to create a matching adjustment portfolio, particularly where they have considerable holdings in assets that are not naturally matching adjustment 'friendly' – such as unrated bonds, callable bonds, equity release mortgages and other assets with prepayment risk. These assets are likely to require some restructuring and the processes, even prior to the regulatory dialogue, will take time".
The ITS also specifies that national supervisors will be given up to six months to approve matching adjustment applications, meaning firms hoping to be eligible for the adjustment by the Solvency II implementation date of 1 January 2016 must have their submissions ready to go by next June at the latest.
The new ITS also state that national supervisors will be permitted to impose additional conditions on firms applying for the matching adjustment beyond those specified in the Omnibus II text. Article 8(2) of the ITS explains that supervisory authorities "may consider other factors… when reaching a decision on the approval of the application", opening the door for regulatory gold-plating in certain jurisdictions. Greg Campbell, consulting actuary at Milliman in London, says: "There's now scope for individual regulators to add additional criteria on top of those already specified in the Omnibus II text."
Campbell adds that article 9 of the ITS appears to relax the penalty to be applied to firms that breach the terms of the matching adjustment. EIOPA has now made clear that a failure to comply with matching adjustment conditions in one portfolio will not mean the firm has to suspend use of the adjustment firm-wide for two years. The adjustment will simply cease to apply to the single portfolio in question.
The new language signals an evolution of the matching adjustment concept. Initially European authorities envisaged the adjustment being applied to a single portfolio containing all an insurer's eligible assets and liabilities. Now it would appear EIOPA understands that some firms will elect to create multiple portfolios.
The consultation on the ITS closes on June 30.
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