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A leading European research institute has said that although proposals in the Committee of European Insurance and Occupational Pensions Supervisors’ (CEIOPS) fourth quantitative impact survey (QIS4) for Solvency II (scheduled for April) are an improvement on QIS3, they still do not take into account the main risk for life insurance companies.
A leading European research institute has said that although proposals on CEIOPS QIS4 for Solvency II are an improvement on QIS3, they still do not take into account the main risk for life insurance companies.
In a positioning paper responding to the CEIOPS consultation on the preliminary technical specifications for QIS4, the EDHEC Risk and Asset Management Research Centre, argues that the main risk faced by life insurance companies is not taken into account in the standard formula. This risk is that following public awareness of market (or other significant) losses, lead by rating agencies or the media, a wave of surrenders leaves shareholders bearing the entirety of losses. The bankruptcy of Executive Life is quoted as such a situation – the company failed due to the wave of surrenders prompted by media reports.
The paper’s author, Samuel Sender, a research associate at EDHEC, argues that such a combined risk can be taken into account only in a scenario in which high levels of surrenders are combined with market losses, and that market losses alone merely added to surrenders may not suggest any further need for capital.
Sender says “Whether an insurance company is able to survive that single main risk can be assessed only by means of a combined test in which the surrenders take place in the context of losses. Without such a test, many life insurance companies would state that ... they do not need shareholders' equity at all because reducing profit sharing is enough to fully absorb any market loss.”
However EDHEC say that QIS4 has also made substantial practical improvements over QIS3 in its treatment of smaller companies and of less strategic lines of business as well as geographical diversification within life and non-life lines of business. This will result in improved consistency in the calculation of capital requirements as well as in the comparisons across companies and countries.
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