1. Capital management under the
Solvency II regime
Workshop material
Pre-Conference Workshop material 1

2. Overview
Contents of this workshop
 Capital in Solvency II: A brief review
 Drivers of the SCR changes
 Drivers of the Own Funds changes
 Own Funds and SCR changes: Common Drivers
 Emerging risks – and their effect on Capital
 SCR and Own Funds: Modelling techniques and tools
Pre-Conference Workshop material 2

3. Capital in Solvency II
A brief review
 Solvency II prescribes a Capital Requirement (SCR)
 Own funds need to be valued by a new methodology
 Capital buffer: difference between own funds and SCR
 Managing this buffer is today’s topic
Pre-Conference Workshop material 3

4. Drivers of the SCR changes
 Market conditions
 Growth of Business
 Investment strategies
 Risk Mitigation
 Emerging risks
Pre-Conference Workshop material 4

5. Own Funds and SCR changes
Common drivers and their impact
 Market conditions
 Investment strategies
 Risk Mitigation
Pre-Conference Workshop material 5

6. Emerging risks
and their effect on Capital
 What are emerging risks
 How capital management should treat emerging risks
 Examples (to follow on dedicated slides)
 Free discussion (to be held offline)
Pre-Conference Workshop material 6

7. SCR and Own Funds I
Modelling techniques and tools
 Standard Formula
 (Partial) Internal models
 Examples (to follow on dedicated slides)
 Free discussion on tools used or considered (to be
held offline)
Pre-Conference Workshop material 7

8. SCR and Own Funds II
Standard Formula
 Simple to implement and is obligatory to use
 Automatically supports consistency with Own Funds
calculation (e.g. Technical Provisions)
 SCR is calculated by formulae calibrated at 99.5%
confidence for the majority of the insurance industry
 No option to assess other confidence levels
 Might not capture all (emerging) risks
 Doesn't give sufficient insight into the drivers of the
capital requirements for capital management purposes
Pre-Conference Workshop material 8

9. SCR and Own Funds III
(Partial) Internal Model
 An internal model is a complex solution covering all
risks faced by the Undertaking
 A Partial Internal Model combines an Internal Model
for the most relevant risks with the Standard Formula for
the rest
 Can be used to value Own Funds – if not used that
way, consistency of methodologies must be evidenced
 Reflects the Undertaking's view of the risk landscape
 Gives a better understanding of the risks taken and
supports business decisions
Pre-Conference Workshop material 9

10. Examples
SCR & Own Funds changes and their modelling
 ORSA requirements, business decisions (e.g. growth,
a new product of termination of one)
Changes in investment policies
Management of underwritten portfolio
Underlying asset management (e.g. Unit Linked)
Cost of capital changes
 Emerging risks, e.g. catastrophes not related to the
Underwriting risks (Fukushima scenario)
Pre-Conference Workshop material 10

11. Example 1
Underwriting risk – Reinsurance impact
 Reinsurance is a major technique of Risk Mitigation
 (Non-proportional) Reinsurance treaties are often not
handled fully by the Standard Formula
 Impact of Underwriting Risk on e.g. Sliding Scale
Ceding Commissions cannot be captured in the
Standard Formula
 Discussion to be held under blog post
http://blog.functionalfinances.com/?p=15
Pre-Conference Workshop material 11

12. Example 2
Simulating Capital driven Underwriting
 Underwriting will always depend on risk appetite and
available capital
 Simulating future Underwriting needs a reactive model
also taking into account Capital Requirement changes
 Standard Formula based calculation will give limited
insight
 Discussion to be held under blog post
http://blog.functionalfinances.com/?p=17
Pre-Conference Workshop material 12

13. Example 3
Management of Underlying
 Many insurance products having some underlying
asset (e.g. Unit Linked)
 Capital requirement for Market Risk will cover changes
of the value of the Underlying
 Underwriting policies will be partially Market Risk
Capital driven
 Discussion to be held under blog post
http://blog.functionalfinances.com/?p=21
Pre-Conference Workshop material 13

14. Example 4
Emerging risks
 Emerging risks do not imply a Capital Requirement
 Still, it is the best to quantify the possible Capital
Impact of such risks materializing
 By the very construction, Standard Formula cannot be
used
 An Internal Model reflecting the current risk profile is
also insufficient
 Discussion to be held under blog post
http://blog.functionalfinances.com/?p=26
Pre-Conference Workshop material 14