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CEIOPS published its report on the outcome of the stock-taking exercise on the current use of internal models in insurance. It represents a reflection of state of play given that industry practices of internal models use are evolving.
The report is organised as follows:
Section 2 – “The approval process” section summarises the experience of the banking sector, securities and insurance supervisory authorities with respect to the review and monitoring of internal models for regulatory purposes.
Section 3 – “Technical characteristics” summarises the nature of a typical model’s assumptions, structure and mechanics, modelling of risk variables and dependencies, and calibration of the models used by firms.
Section 4 – “Data” provides an overview of the data management and data processing currently implemented by firms (e.g. data quality, sources of data, lack of data, expert judgment, etc.).
Section 5 – “Operational performance” explains some IT aspects of internal models, issues related to the use of various systems and around the timeliness and integrity of computations.
Section 6 – “Mitigation of risks” reviews the risk mitigation methods and the extent to which they are reflected in the model outputs (e.g. management actions, hedging, re-insurance, securitisation, alternative risk transfer techniques (ART), etc.).
Section 7 – “Validation” describes the methodologies used by firms for the verification of data integrity, including market prices; extent of the independent review of the methodologies, documentation and their implementation; sensitivity and stability of the model; performance of the model, back-testing, accuracy of predictions and ability to rank-order risks; validation of the soundness of the systems, etc
Section 8 – “Model Governance” provides an overview of the internal approval structure of models used by firms; involvement of senior management; degree of independence between people that are assessing and quantifying risks and those that are selling products (i.e. between front and back office); use of model management information by senior management; stress testing and impact on business decisions.
Section 9 – “Documentation Standards” describes the existing practices about documentation of methodologies, risk policies, calibration procedures, etc.
Section 10 – “Use test” covers the current uses of internal models by firms, including the setting of the risk appetite, limit monitoring, pricing purposes and capital allocation.
Section 11 – “Partial internal models” describes issues related to partial internal models.
Section 12 – “Group internal models” examines issues specific to groups.