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Solvency II Internal Models – where are we now?

Solvency II Internal Models – where are we now?

It is two years since the first Solvency II internal models were approved in the UK – what has happened since?

Richard Care

Actuarial Partner

KPMG in the UK


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It is nearly two years since the PRA announced the approval of 19 full or partial Solvency II internal models in the UK. Since then, two more internal models have been approved, and a number of variations to approval for various mergers or acquisitions within the life insurance industry.

Although there have been a handful of internal model amendments related to changes in methodology (as opposed to scope), there have been fewer than expected in the first 18 months of Solvency II. Other events have overshadowed major model changes (both for companies and the regulator) – particularly the behaviour of the financial markets following Brexit and the knock-on impacts that this had on, for example, the recalculation of the Solvency II transitional measures.

Likewise, the Matching Adjustment (MA) has also taken priority for a number of firms – and seems to be currently at the top of the PRA’s list, with the latest consultation paper just released. That said, we are now beginning to see companies in the UK and elsewhere in Europe reconsider the calibration of their internal models. There is a strong view within the industry that it’s now time to assess how far insurers have conceded on certain aspects of the models and the overall strength of the calibrations to the respective regulators. Companies are taking the time to look more closely at the internal model to assess whether they have in fact conceded too much in certain areas, particularly compared to their peers.

Yet making major changes is no small task, with a full set of documentation required, followed by validation and then a six month approval period from the PRA. This lengthy waiting time opens up the possibility of parallel models being run, as well as uncertainty on, for example, capital charges on new asset types.

So which areas are companies most likely to be looking at? The obvious contenders for annuity providers are longevity risk and credit risk – particularly the MA under stress – but there have also been areas of development around interest rate modelling and of modelling “alternative” asset classes.

In particular:

  • We’ve seen a number of concerns about the fairly broad brush limits and caps applied within the final approved MA under stress methodology – and companies have been seeking to reconsider these. The PRA’s data requests in this area also highlight this as a continued area of focus for them. 
  • Interest rate modelling has grown increasingly sophisticated over the last two years, with negative rate modelling becoming more important given the movements in the financial markets. There have been a variety of approaches used to capture negative rate modelling.
  • As the search for yield continues (mostly, in the UK, for annuity writers), assets classes such as ground rent, infrastructure, private loans and so on are attracting increased investment. Equity release assets are also proving popular, despite the restructuring required to make them MA eligible: a number of insurers are now starting to invest in them, while others are potentially returning to them. Whether investing for the first time or increasing allocations to material amounts, this requires new calibrations or revisions to existing calibrations.
  • The new CMI mortality improvement tables show that mortality isn’t improving as quickly as previously thought. Companies may see this as a good opportunity to re-open the longevity stress debate with the PRA, another area where the industry generally feels the internal model stresses are too severe.

KPMG has assisted a number of companies in the calibration, documentation and validation of risks potentially subject to major model changes, as well as providing support for internal rating methodologies used in the internal model and matching adjustment calculations. If your business is impacted in this respect, please feel free to get in touch for guidance on how best to respond.

If you would like more details, please contact Nick Ford, Senior Manager – Actuarial & Insurance Risk.

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Solvency II

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With Solvency II now live, what more needs to be done by insurers to embed the processes and systems that have been developed?

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KPMG International Cooperative (“KPMG International”) is a Swiss entity. Member firms of the KPMG network of independent firms are affiliated with KPMG International. KPMG International provides no client services. No member firm has any authority to obligate or bind KPMG International or any other member firm vis-à-vis third parties, nor does KPMG International have any such authority to obligate or bind any member firm.

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