How will the introduction of Solvency II shape European insurers’ tactical asset allocation on a national and European level?
Solvency II is nothing more and nothing less than a risk-based supervisory framework. This means enhanced transparency, better understanding of risks and, therefore, better decision-making at the level of the companies. Insurance is a type of business that is focused on both – assets and liabilities – sides and the idea of Solvency II is that insurers should have better information in order to make well-informed decisions. In this regard Solvency II will have a positive effect on the assets allocation. Furthermore, the new framework will enhance diversification because it not only brings transparency, but also foresees that capital charges are set up on the basis of risks you are exposed to and of the way that you are managing them. It also creates incentives that sound risk management will be rewarded in terms of capital.
Did you find yourself under pressure from politicians who asked Solvency II to result in a de/allocation of assets into pensions funds or similar? Were there macro considerations to be included within the calculations?
We have advised on the basis of sound technical calculations taken by the supervisory community (and in particular by the actuarial teams that were involved). I would not say that the way that Solvency II looks now is a politically driven outcome. We need to understand that every piece of legislation and regulation is based not only on the mathematical works and assumptions but also on the impact of the suggested measures, because we need to fully understand what we are proposing and its implications.
Will Solvency II require insurers to adopt new asset pooling techniques or will it create an environment whereby individual asset classes win out?
Solvency II should be neutral. The same risk-the same capital charge or different risk-different capital charge on the basis of the same type of value of risk with the same value of confidence level. If we have rightly designed the capital charges for each of the assets, then it should be completely neutral. This would depend on the type of business you are doing. If you take re-insurers for example, they are exposed to not much frequency in terms of events but the severity or intensity of these events is quite high and they may have to be paid back very quickly. This affects their portfolio as they tend to have more liquid assets etc. Another example: if you were in the pensions business, where you didn't expect to have outflows within the next 20 years, you can have more illiquid assets in your portfolio. This is something that Solvency II is also encouraging through an enhancement of the Asset and Liability Management Policy.
What would you say to critics who argue that Solvency II is yet another restriction on the European insurer’s investment capacity?
To say that it is a restriction, would contradict the entire Solvency II idea. Solvency II is a development from Solvency I whereby you are allowed to invest in any type of asset you want. Today there are restrictions and some assets are forbidden, Solvency II on the contrary is going to give people the opportunity to invest in whatever they want. However, there is going to be a price in terms of the capital that you will have to hold, if those assets are deemed to be too risky.
Credit derivatives were thought to look very good ten years ago / how frequently will you update those weighting charges?
Companies were pooling a number of different assets in the same basket and were benefiting from an enhanced diversification, so conceptually credit derivatives did look great. However, we were not able to identify that the ratings were not designed for this type of element and that there was a melting effect that everyone, including the regulators, underestimated. Solvency II aims to see behind the surface and to assess what are the collateral and underlying assets that are behind these various products. But Solvency II is not against derivatives that instead of leveraging bring hedging, on the contrary.
What is the latest thinking on captive insurance? Are they going to be treated differently and get the simplifications that the risk managers want for their captives?
Captives fit into Solvency II. This is a valuable business and companies in Europe transfer a lot of risks via captives, that is why captives have a perfect fit into Solvency II, which as framework aims at enhancing and incentivising risk management. If the regime would not address appropriately the specificities of the Captive business, companies could just move to a different jurisdiction and as European regulators we need to be aware of this. We need to ensure that the Solvency II framework allows for captives’ treatment in an appropriate way. There is the famous concept of proportionality which should allow for a simplified treatment of captives, and also specific simplifications in the Standard Formula only for captives but, as I already said at a Captives Conference in Luxembourg a few months ago, captives are still insurers and thus need to follow the same corporate governance and risk management standards as all the other insurance undertakings under Solvency II. This makes a lot of sense and so we have to make it work for the captives that are registered in the European or equivalent jurisdictions. We certainly believe that captives are an excellent way of managing and transferring risks but the same principles of Solvency II need to be applied to them as to all other insurers.
Full interview
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