Out-Law News 3 min. read
17 May 2012, 9:23 am
However in a speech delivered to the industry, insurance head Julian Adams commended firms for their "high level of engagement and excellent progress" with the new regime, which will introduce EU-wide solvency standards and more stringent risk management requirements for the industry.
Adams said that the regulator would not be able to accept formal applications from firms seeking to use an internal model until 2013 after the European Commission pushed back its timetable for formalising the Omnibus II Directive, which will implement regime known as Solvency II.
"The nature of the application phase will vary from firm to firm, and will also depend on the extent to which the final policy position differs from that which we are working to now," he said. "Our approach is designed to ensure that we can do as much work up-front as possible, and minimise re-work where this can be avoided."
Earlier this week the FSA wrote (5-page / 193KB PDF) to firms involved in its internal model approval process (IMAP) identifying some general weaknesses it had observed from submissions to date, including in the methodology and assumptions used and through the inadequacy of supporting documents. Companies will be permitted to develop individual models in order to calculate their liabilities under the Solvency II regime, or will be able to use a 'standard' model which will likely mean higher capital charges.
Omnibus II (155-page / 3.7MB PDF) is a draft EU Directive which sets out stronger risk management requirements for insurers and dictates how much capital firms must hold in relation to their liabilities. The regime, which was originally expected to come into force later this year, has proven controversial. London-based insurance firm Prudential has refused to deny press reports that it is considering switching its headquarters to Hong Kong as a result of the changes, while the UK pensions industry has spoken out against proposals to create similar standards for pensions.
The European Commission recently announced that the date by which the new regime must be integrated into national legal systems would be delayed until June 2013, with the rules due to take effect from January 2014. The European Parliament's Economic and Monetary Affairs Committee (ECON) approved further compromise measures on the draft Directive in March, which will require a new version of the text to be produced. A plenary vote on this draft is due to take place at the European Parliament in September.
In its letter, the regulator said that some firms had not done "enough work upfront" to ensure that the models they planned to use sufficiently reflected their risk profile, usually because they were using the same assumptions across different and more complex areas of the business. Other firms' approaches were "too complex and so less likely to be properly understood or used", it said.
"We are looking for evidence clearly conveying that the firm has properly evaluated, tested and communicated the relative materiality, including how it made its judgement regarding the elements it deems to be immaterial," the letter said.
The regulator also noted that there were often "high levels of uncertainty" involved in the assumptions firms had to use for calculating their overall results. Some firms had not properly considered the limitations of the data they had chosen to use, or tested alternative methods to see if they would be more appropriate.
"We expect firms to give careful consideration in their submission to their selection of methods, assumptions and parameters being used, and to validating those choices," the FSA warned. "In particular, sensitivity testing should be used, with corresponding likelihood and return period assumptions to test the reasonableness of the overall results."
The letter also emphasised that responsibility for meeting the requirements of the new regime lay with firms themselves. "We will rely on their submitted documents and other documentation in judging whether the tests and standards have been met," it said.
In his speech, Adams said that although the new regime was yet to be finalised the regulator's ability to make progress could "only be as swift as that of the firms we supervise".
He called on insurers to make their submissions "in accordance with the timetable we have already agreed", enabling the regulator to comment on the suitability of particular models at an early stage.