Supervisory challenges for insurers in 2019

The first financial reports for 2018 are on the way! But what does 2019 bring for insurers? It will not be a walk in the park given the challenging market conditions in the middle of high political risk and the debate on the review of Solvency II.

Risk exposures for the European insurance sector remain overall stable according to the EIOPA risk dashboard: no red alerts but most risks remain however at a medium level.


Figure 1: EIOPA January 2019

General tendencies are that the monetary policy is becoming less accommodative, with an increase in policy rates and a continued reduction in the pace of monetary expansion of central banks. CDS spreads for corporate bonds as well as equity market volatility have been increasing since September 2018. Market perceptions were mixed with insurance stocks outperforming the market resulting in increased price-to-earnings ratios for some insurance groups. EIOPA also notes a potential future deterioration in the assessment due to political and international trade tensions.


Supervisory Priorities 2019: EIOPA’s Annual Work Program

EIOPA has put forward several regulatory challenges to be addressed in 2019:

New emerging risks


EIOPA identified multiple new emerging risks such as the Supervision of data and IT-related risks, including cyber risk, Insurtech and the Brexit impact. The adequacy of implementing a ‘Cyber resilience test’ in the insurance market will be assessed in this perspective.

Artificial intelligence and innovation are becoming more important in the strategies of insurance companies. Several insurance companies are showing an increased ambition to benefit from machine learning.

We observe a global trend to disclose realisations in this area. Financial analysts also inform more about forward-looking strategies on Artificial Intelligence.


Big data and analytics will become increasingly important to address customer expectations in the overall insurance value chain.

We believe that structural decisions are mandatory in terms of investments, partnerships, the operating model, the ‘redesign’ of processes and the organization of the internal control activities. In addition, Insurance undertakings should be increasingly concerned about the profile of the talents for the future and aware of the threats and opportunities offered by Insurtech.

Due to the impact of the Brexit, Lloyd's decided to obtain its licence to operate in Belgium to provide access to Lloyd’s products, regardless of the outcome of the Brexit negotiations. EIOPA will continue to monitor the consequences of Brexit in insurance and pension markets.

Use of Internal models

Many insurers in Belgium use (partial) internal models for regulatory capital requirement purposes. And as a decisive tool for strategic decision support, scenario analysis and stress testing. EIOPA will perform comparative studies on the outcomes of internal models regarding underwriting risks (for main non-life lines of business), market and credit risk. EIOPA wants to put forward common benchmarks for the supervision of internal models in view of the creation of a level playing field.

This initiative of EIOPA is in line with our recent blog where we already highlighted the importance of sound model risk management. Sound model risk management will become increasingly important for financial institutions in the coming years.


The 2020 Review

Multiple insurance companies have long-term investments covering long outstanding guarantees. EIOPA will perform an assessment of the measures on long term guarantees and equity risk. Insurance companies should become up to speed on the impact that the 2020 Solvency II review will have on their business.

We observe a continuing trend in the business plans to shift away from long term guarantees to capital light products (e.g. Unit Linked) where the financial risk is shifted to the policyholders. We, therefore, hope that the review on long term guarantees will take this evolution in the market into account.


Insurance recommendations from the IMF

The IMF has also made several recommendations in its Belgium Financial System Stability Assessment.

Increased monitoring of mortgages:

Insurers have increased their mortgage exposure on their balance sheet because of the beneficial treatment under Solvency II and its attractive asset liability characteristics. The IMF stresses the increasing liquidity risk of insurers due to their transition to asset management type products and their acquisition of mortgage loan portfolios. 

The NBB recently decided to follow up on the risk in the residential mortgage portfolios from both a micro and macroprudential point. The first reporting on residential mortgages must be submitted in April 2019. This will force insurers to streamline the reporting and better understand mortgage books.


Improve quality of capital

The recent stress test on the Belgian insurance sector shows that insurance companies are well capitalized to withstand severe shocks to financial markets. Reliance on lower quality forms of capital is however still a concern. This includes subordinated loans from parent companies and vulnerability to redemption risk due to unrecognized gains on new insurance products with greater flexibility of surrender. In some cases, the use of the volatility adjustment has led to an overstatement of insurers’ solvency. The volatility adjustment still has its perks and can lead to significant balance sheet volatility.



Figure 2: IMF Overview Stress Tests


Volatility adjustment explained:
The volatility adjustment is a measure to ensure the appropriate treatment of insurance products with long-term guarantees under Solvency II. (Re)insurers are allowed to adjust the Risk-Free Rate to mitigate the effect of short-term volatility of bond spreads on their solvency position. In that way, the volatility adjustment prevents pro-cyclical investment behaviour of (re)insurers.


2019 will be a busy year for insurers with several risk management challenges on top of “business as usual”. The TriFinance Risk Management & Compliance Practice is there to help guide insurers to these exciting times.

Sources

  • Circular NBB_2018_27 / Residential mortgage loans reporting insurance
  • DIRECTIVE 2009/138/EC OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL of 25 November 2009
  • EIOPA, September 2018, EIOPA Single Programming Document 2019-2021 with Annual Work Programme 2019
  • EIOPA, January 2019, Risk Dashboard
  • EIOPA, April 2018, EIOPA's Strategy for Conduct of Business Supervision – Next Steps
  • EIOPA, Supervisory Convergence plan 2018-2019, How the European Insurance and Occupational Pensions Authority is building supervisory convergence.
  • EIOPA, 23 April 2018, EIOPA Defines its Supervisory Converge Priorities.
  • EIOPA,2018, 2018 Insurance Stress Test
  • IMF, 2018, IMF Country Report No. 18/67, Belgium Financial System Stability Assessment



About Rudolf Sneyers
After holding a wide range of management functions within BACOB Bank and Artesia Banking Corporation, Rudi Sneyers joined the market and operational risk management division of Dexia Bank Belgium (currently Belfius) in 2002 as Deputy Head of the division. In 2004, he became Director of the Credit Risk Management division. He was appointed deputy Chief Risk Officer of Dexia Group in May 2007 – a challenging journey in view of the emerging banking and sovereign crisis of 2008 and 2011. From May 2014 until mid -January 2018, he held the position of General Auditor of Dexia Group also in charge of internal model validation and the ECB Office. Rudi joined TriFinance in 2018 to lead FI’s Risk Management & Compliance Practice. He is also Executive Director at Arvestar Asset Management since mid-2018.

About Stephen van Mello
Stephen has a Master in Commercial Sciences, a Master of Science in Financial Economics and a Master in Fiscal Law and earned several project management certifications. He performed several missions mainly in an M&A environment in both finance and risk departments of several financial institutions. He is a member of the TriFinance’s Risk Management & Compliance Practice and his main expertise domains are ALM, capital management and financial regulations.

About TriFinance’s Risk Management & Compliance Practice
The TriFinance Risk Management & Compliance practice is supporting banks and insurance undertakings in anticipating and addressing the tighter regulatory standards relating to risk management, compliance and internal control by monitoring the different European and local regulatory and supervisory bodies. Simultaneously, TriFinance can help banks in all kinds of transformation processes of the Risk Management and Compliance function to be better prepared for the rapidly evolving external environment.

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"2019 will not be a walk in the park for insurers given the challenging market conditions in the middle of high political risk and the debate on the review of Solvency II."