The world of financial reporting for insurers has never been this close to the edge.
There is more change brewing now even than when Europe adopted “European Embedded Values” and later “Market Consistent Embedded Values”. The irony is that Embedded Values may well fall away as a result of the latest change.
So what is changing?
- Solvency Assessment and Management (SAM) is still planned for 2015 in South Africa. SAM will change the calculation of actuarial reserves, or Technical Provisions as they are now known, for regulatory reporting purposes. Solvency II in Europe is now likely to follow rather than precede SAM by a few year, but with nearly identical implications.
- IFRS4, the accounting standard covering insurance contracts, is due for a radical change effective in 2016/2017, although this is years later than originally planned. IFRS4 “Phase 2” as it is referred to throws out most of what we’re used to in terms of profit recognition, financial impact of assumption changes, impacts of asset and liability mismatches and may very well push insurers to value their assets on a different basis.
- IFRS9, a new standard replacing IAS39 and covering financial instruments, whether these are assets or liabilities, will poke and prod insurers into different decisions now and possibly before knowing exactly how IFRS4 will pan out.
- Finally, although this part is still speculative, Embedded Value reporting may fall away as SAM and Solvency II achieve much of the objections of Embedded Value.
This post is the first in a series covering important aspects if the change in financial reporting standards, covering news of the developments as it emerges as well as the likely implications for financial reporting, product design, ALM, financial reinsurance and others. I’d encourage you to post comments or questions on this or later posts and I’ll try to answer those through the series.
- Part 1 – IFRS reporting under SAM
- Part 2 – EV in a SAM/Solvency II world
- Part 3 – Apocalypse! – SAM as the tax basis
- Part 4 – Acquisition accounting under IFRS4 Phase II – a little speculation
The Technical Provisions Task Group and KPMG ran a workshop for industry participation on risk-free rates recently. The idea was to see whether we could improve the extent and quality of industry comment on key, controversial areas of the proposed SAM regime.
Turnout was good, but not great, but the discussion and points raised were all fantastic. Plenty more to do from here onwards, but I thought it might be useful to include the presentations somewhere publicly available.
Some of the concepts that were on the agenda
- Swaps vs Bonds, the theory as well as practical implications for insurers, banks and the capital markets
- Extrapolation methods and what challenges this creates for practitioners
- Identifying and measuring illiquidity premiums, credit spreads and the difference between Expected Default Loss and Credit Risk Premiums
- European developments on Matching Adjustments and Countercyclical Premiums. Should we follow their path? Is bottom-up or top-down more practical?
- Do we need a methodology for nominal and/or real yield curves?
- Non-South African countries – what is the practical answer to requiring multiple yield curves?
- Reducing regulatory arbitrage between banks and insurers for credit and market risk on swaps and bonds
- David Kirk
- Ian Marshall
- Philip Harrison
- Brian Kipps
- Lance Osburn
- Lindy Schmaman
- Louis Scheepers
Presentations (reproduced with permission from the authors)
Risk free rate workshop outline November 2012
Position Paper 40 (v 3)
Philip Harrison – Risk Free SAM Workshop
Risk free yield curves Brian Kipps
Risk-free rate workshop_LSchmaman
SAM Risk Free 29 Nov012 Louis Scheepers
SAM Workshop 20121129 Lance Osburn
I haven’t posted in ages – plenty happening on the work front, which is mostly good news. I also don’t really have time to comment properly on this article but Wits academic, Robert Vivian, but it’s interesting reading all the same.
Read Vivian’s letter first and then come back to my comments.
I can’t help but feel Vivian doesn’t actually understand the rationale for the proposed system and therefore gets a little frothy at the mouth about how awful it is. That’s not to say his criticisms shouldn’t be taken seriously – there are flaws in the proposed approach but it’s not clear to me that these are worse than a system that moves at the pace of continental drift because of exceptionally slow Parliamentary processes.
This maybe reflects a imperfectly functioning legislative process, which is a separate issue to discuss entirely.
It also reflects the reality that very few in Parliament (our country and most others I would imagine) have the time or technical knowledge to influence many of these laws anyway. Requiring a parliamentary process may not actually change the law-making function.
The final point here is that there is precedent here from a European perspective, so we’re not totally out on a limb in South Africa.
Maybe Vivian could rather suggest some tweaks that put his mind at ease about sentencing individuals to death by law without returning us to a stagnating world of too-slow legislative changes?
So, as I expected given the fundamental changes to IFRS 4 in recent months, the IASB is doing the grown-up thing and is re-exposing the latest version of the insurance accounting standard
later this year early next year.
They are restricting questions to areas that have changed or where final decisions haven’t been made, which I suppose is also fair enough and ensures focus is on the key new areas.
Re-exposure for a period, analysis of comments, reworking of any sections as a result of those comments… There is still a fair amount of work to be done!
Implementation 2016 / 2017 is most likely.
A client was asking about the key changes coming up for SAM Interim Measures. This document (from the FSB) is about the best summary I’ve seen: Interim Measures Update (Governance)
My take on this is that the FSB is basically expecting compliance or a pretty concerted effort and reasonable compliance with these requirements NOW. The original plan was for these to go live in 2012. That was for good reason – it will take a while to polish these up and there is plenty more required before full implementation of Pillar Two requirements.
Apparently the Insurance Laws Amendment Bill is still with National Treasury and is unlikely to be passed by Parliament this year. So breathing space if you’re not currently compliant, but also time to get a move on and get these things in place.
Aviva is trialling a smartphone App that will assess driving style. Using the phone’s built-in accelerometer, the app will measure acceleration, braking and cornering.
In many ways this is no different from other permanently installed tracking systems increasingly used for underwriting and assessing risk. Differences include:
- Since it utilises the policyholder’s existing phone, no installation is necessary and no additional hardware costs are incurred
- the App can be updated remotely quite easily and uninstalled by the policyholder at any point. A range of issues arise from this, including potentially greater acceptability to policyholders since they have the control. On the flip side, insurers will have to decide what it means if the driver is driving without the app installed and running. The rules can’t be too draconian here since battery life issues and others mean it won’t always be practical to have the app running.
- Interestingly, the way Aviva side-steps this issue is by requiring the app to run for a 200 mile test period only. Of course this adds any number of additional issues. How representative is that 200 mile sample? How easily can thus be gamed by policyholders who are prepared to drive like model citizens for 200 miles but no further?
- The simplest way to test this would be do both. Use the app for 200 miles on a sample who also have a gps tracker. Double blind requirements aside (which may be dangerous while driving) this would provide the data necessary to evaluate the predictive power of the app for the tracks. A way around the behaviour monitoring nature of the tracker is to run the get on some people who aren’t aware of the tracker. With policyholders this is almost definitely going to be unethical under every imaginable scenario, but with employees or test participants there may be a way to do it.
So a range if interesting questions in need of answers. Whatever the answer, this is clearly part of the new phase of tech and data supporting motor underwriting around the world.
The next interesting observation for me was the comments of people on hearing abut this specific system. Many were directed at telematics in general, which suggests this still isn’t widely known or accepted. Insurers will always have an uphill communication battle, and while sophisticated new rating systems may improve underwriting, it only makes this “people” challenge more difficult.
I gave an overview of SAM Technical Provisions for short term insurers last Friday. Very much an introductory session, but hopefully explains how the full SAM requirements are not that onerous for a short term insurer.
Lots on this topic to come over the next few months.