PRA Addresses Life Insurers on Observations from Regulatory Activities

In the past year, PRA has continued to focus the reviews on ensuring that appropriate prudential standards are maintained. The letter highlights following key areas where further industry-wide PRA activity is expected in the next 12 months:

• Model Drift—PRA is carefully monitoring model drift using supervisory tools developed in recent years. While PRA recognizes the limitations of model drift metrics and takes into account additional factors that may legitimately explain the potential model drift, this is not a trend that is expected to continue over time. PRA encourages firms to develop their own model drift measures and not to limit the model drift analysis to the metrics.
• Proxy modeling—Most internal model life insurers use a proxy model to calculate their Solvency Capital Requirement (SCR) and recently a sample of firms have been surveyed in this area. Given the wide range of practices observed in the survey, PRA is considering whether to issue a consultation on proposed expectations for how firms can continue to meet internal model tests and standards in respect of proxy modeling.
• Treatment of expenses in Solvency II technical provisions and SCR—PRA has observed a variety of approaches to the projection of expenses in technical provisions and the treatment of fixed overheads in both the standard formula and the internal model SCR calculations. This appears to be a challenge across the European economic area. EIOPA has issued two question and answer responses on the interpretation of the Level 2 text. PRA considers that it is a good practice to reflect the principles underlying these responses when determining the expense projections for all firms within technical provisions and in the capital requirement calculation. PRA plans to undertake some work in this area across the life insurance sector during 2019.
• Firms’ monitoring of matching adjustment portfolios—In late 2018, an industry-wide review by PRA identified a broad range in the quality of firms’ internal management information for monitoring regulatory compliance in relation to the matching adjustment. Chief Actuaries may wish to consider the adequacy of how their firm monitors the trading of matching adjustment assets and collateral management. Given the significance of matching-adjustment approval, PRA is contemplating further reviews in this area to ensure firms are adequately monitoring their own compliance.

Annex 1 to the letter further details these above-mentioned areas where PRA activity is expected in the next 12 months while Annex 2 serves as a reminder on other important areas relevant for life insurers, the areas in which PRA has issued policy or communications. These other areas include climate change, the impact of moving from LIBOR to SONIA, equity release mortgages and other illiquid assets, Solvency II technical provisions, and transitional measures for technical provisions simplification. Finally, Annex 3 to the letter offers additional information on the "bottom up" model drift metrics.

Related Link: Letter

Keywords: Europe, UK, Insurance, SCR, Solvency II, Model Drift, Proxy Modelling, Matching Adjustment, LIBOR, SONIA, Life Insurance, PRA