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The Solvency II 2021 review: should you brace yourselves?

The Solvency II 2021 review

The Solvency II 2021 review: should you brace yourselves?

While the 2019 Solvency II review delivers simplifications aimed at fixing unjustified constraints for insurers, we expect that the complete review in 2021 will include more significant changes. These revisions are meant to reflect developments in the insurance industry and also in the wider European and global environment.

The European Commission (EC) has sent a formal request for technical advice to the European Insurance and Occupational Pensions Authority (EIOPA) with clearly identified topics. Any proposed change should include EIOPA’s impact assessment in terms of Solvency Capital Requirement (SCR) and Solvency ratio. This will allow the European Community to better understand the effect of the proposed change to insurers capital position and the broader EU financial services.

The main items are covered below.

Volatility adjustment (VA) and Matching adjustment (MA)

(Re)insurers may adjust the risk-free interest rates adopted to determine their Best Estimate Liabilities (BELs). This reduces the impact of short-term volatility of bond spreads (VA). Additionally, the MA is an upward adjustment to the risk-free rate where insurers hold certain long-term assets with cash-flows matching the liabilities.

EIOPA will assess the correct performance of both measures as a way to prevent pro-cyclical behaviour on financial markets and to check the effects of bond spreads exaggeration. They are also expected to consider a single adjustment mechanism that combines MA and VA.

Risk-free interest rate extrapolation

EIOPA is tasked to provide evidence on how to determine the last liquid point (LLP). This is the point after which the risk-free interest rate term structure is based on an estimate of the ultimate forward rate (UFR). EIOPA will base this LLP criteria on data collected in previous years, including periods of market stresses and higher interest rates. UFR has reduced over time and is expected to decrease further, impacting (re)insurers’ Solvency II balance sheet and capital position.

Transitional measures

The EC has asked EIOPA to review the existing interim measures optionally available to (re)insurers to assess whether they are appropriate from a policyholder’s protection perspective.

Standard Formula parameters (among others)

Risk Margin (RM): EIOPA will assess whether the design and underlying assumptions are still appropriate without challenging the cost-of-capital approach.

Risk Mitigation techniques: EIOPA will advise on ways to recognize the most common non-proportional reinsurance covers for non-life underwriting risk, and whether changes to the legislative framework are necessary to include methods outlined in the EIOPA-published guidelines.

BELs: EIOPA will report on divergent supervisory practices regarding the calculation of BELs. In particular relating to the:

  • use of economic scenario generators (life insurance)
  • the application of contract boundaries
  • use of future management actions
  • treatment and evaluation of expenses and options & guarantees.

Minimum Capital Requirement (MCR): EIOPA will report on rules and supervisory practises used by national authorities to calculate MCR. They will also assess whether the current MCR rules are still consistent with a Value-at-Risk of the basic own funds of a (re)insurer. This is based on a confidence level of 85% over a one-year period.

Is this enough to keep you busy? Well, there is more on the horizon. The IFRS 17 start date is fast approaching and its implementation is likely to overlap with the latest Solvency II changes.

While (re)insurers can leverage some of the Solvency II work they have done so far, IFRS 17 poses new challenges, especially with unbundling and aggregating contracts, contractual service margin and the like. Can your organisation cope with the ever-increasing workload resulting from regulatory changes? 

Need help?

Make sure you don’t get caught off guard. Navigate Solvency II’s current and upcoming requirements by leveraging our team of actuarial, risk, investment and information technology experts. Please get in touch for more information.

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