Presentation on theme: "NAIC Risk-Based Capital"— Presentation transcript:
1 NAIC Risk-Based Capital Walter BellNAIC President andAlabama Insurance CommissionerVice Chair of IAIS Executive CommitteeASSAL ANNUAL CONFERENCESantiago, Chile
2 History of Risk Based Capital Risk based capital concept began in 1989September 1990, Examination Oversight Task Force of NAIC determined Risk Based Capital requirements were preferable to minimum capital and surplus requirementsDecember 1990, NAIC formed two RBC working groups (one life and one property and casualty)The NAIC began to explore concept of risk based capital in 1989 in an effort to enhance the ability of regulators to detect potentially weak insurers and to take appropriate action well before such an insurer becomes insolventIn September 1990, the Examination Oversight Task Force of the NAIC determined Risk Based Capital requirements were preferable to minimum capital and surplus requirements.The current statutory minimum capital requirements provide very little help to regulators in solvency regulation.Statutory minimums vary from state to state.At its December, 1990 meeting, the NAIC formed two working groups (one life and one property and casualty). These groups developed RBC formulas and related model laws. The laws were to provide legal mechanisms for regulatory intervention when capital and surplus fell below thresholds (as calculated in the RBC formulas) that were meaningfully related to the amounts and types of exposure faced by a specific insurer.
3 History of Risk Based Capital (Continued) 1991 and 1992 Risk-Based Capital survey distributed to companiesLife RBC formula finalized in 1993P/C RBC formula finalized in 1994RBC standards for health organizations were implemented in 1998Surveys of the draft life RBC calculations were distributed to companies for two years prior to implementation. The calculation was then phased in for the first few years.After much deliberation, the property and casualty RBC formula was finalized late in 1993 with minor changes during The first RBC filing for property and casualty insurers is based on the 1994 Annual Statement and was to be filed on or before March 1, 1995.Risk based capital standards for health organizations were implemented for year-end 1998.
4 History of Risk Based Capital (Continued) The NAIC RBC formula is generally a formula-based calculation of a minimum level of capitalTotal Adjusted Capital is compared to 4 action levels of RBC where action is taken by the company or the regulator:The NAIC RBC formula is generally a formula-based calculation of a minimum level of capitalTotal Adjusted Capital is compared to 4 action levels of RBC where action is taken by the company or the regulator:
5 History of Risk Based Capital (Continued) RBC Action Levels:Company Action LevelRegulatory Action LevelAuthorized Control LevelMandatory Control LevelThose RBC action levels are as follows:Company Action Level – The insurance company files a plan with the stateRegulatory Action Level – The insurer files a company plan or revised plan. The state performs such examination or analysis as deemed necessary of the company operations.Authorized Control Level – The state is authorized to take over the company at the states discretion.Mandatory Control Level – The state is required to take over the company.
6 History of Risk Based Capital (Continued) The number of companies at action levels has remained relatively constant for life and property/casualty (non-life) RBC since inception:The number of companies at action levels has remained relatively constant for life and property/casualty (non-life) RBC since inception though the RBC formulas continue to be refined and changes occur to them every year due to the review of the NAIC RBC Working Groups and Capital Adequacy Task Force:
7 Life and P/C RBC Statistics 200019991998199719961995Company4441375560Regulatory2518142220Authorized58911Mandatory30272834Total Action104949212798Total Co’s3,6283,5463,7813,8433,9253,933% of Total2.9%2.7%2.4%3.2%2.5%Generally, the number of companies at an action level has ranged between 2 ½ and 3 ½ percent since inception of the formula.
8 Life and P/C RBC Statistics 200620052004200320022001Company283744436038Regulatory19291632Authorized76811Mandatory35393340Total Action8997125109136116Total Co’s3,5263,5013,5323,4753,5943,625% of Total2.5%2.8%3.5%3.1%3.8%3.2%The percentage of life companies at action levels would generally be around 2% where the P/C companies percentage on average would be higher between 3% and 4% of P/C companies.
9 History of Risk Based Capital (Continued) As a result of P/C insolvencies in the early 2000’s, a ‘trend test’ was added to P/C RBC in 2005The ‘trend test’ may trigger a company action level if a ratio of the companies claims and expenses to premiums is unfavorableAs a result of property and casualty insolvencies in the early 2000’s, a ‘trend test’ was added to P/C RBC for year-end 2005.The trend test’ may trigger a company action level if the RBC percentage (calculated as Total Adjusted Capital divided by Authorized Control Level RBC) is between 200% and 300% and the combined ratio (which is a ratio the companies claims and expenses to premiums) is greater than 120%
10 History of Risk Based Capital (Continued) The number of health companies at action levels started high and has declined subsequently:The number of health companies at action levels started high and has declined subsequently:
11 Health RBC Statistics 2002 2001 2000 1999 1998 Company 37 48 19 30 Regulatory33431622Authorized17234629Mandatory21264236Total Action108140123117Total Co’s672578543563% of Total16.1%24.2%22.7%20.8%The first few years of the health RBC formula the number of health organizations at action levels was generally between 16 and 24%.
12 Health RBC Statistics 2006 2005 2004 2003 2002 Company 9 12 8 23 32 Regulatory752125Authorized6124Mandatory1014Total Action34275883Total Co’s791754704698687% of Total4.3%3.6%3.5%8.3%12.1%The number of health companies at action levels declined fairly quickly after 2001 and has now seemed to level off close to 4% of the companies.
13 Principles-Based Capital Property and Casualty RBC Catastrophe RiskPotentially use modeling of catastrophe risk in the RBC formulaAllow companies to use their own RMS, Equecat, etc. modelsFor property and casualty RBC, catastrophe risk has been only partially reflected in the RBC formula.The Property RBC Working Group is currently considering adding a catastrophe risk component to the P/C RBC formula.The Working Group is looking at using catastrophe risk models most likely hurricanes and earthquakes.Companies would allowed to use their own models from modeling firms such as RMS, Equecat, etc.Certain criteria in the models would likely be specified.
14 Principles-Based Capital Life RBC C-3 – Interest Rate Risk and Market RiskC-3 Phase I – 2000C-3 Phase II – 2005C-3 Phase III – 2008 or 2009C-3 Phase IVFuture ?For Life RBC, a principles-based approach for interest rate risk and market risk (which is referred to as C-3 in combination) began for year-end 2000 and is continuing.
15 C-3 Phase I Interest rate risk of annuities and single premium life Based on cash flow testing of assets and liabilitiesOriginally, only companies that triggered one of two tests for materialityMay be changed to a CTE methodology for modeling in the future.C-3 Phase IWas for the interest rate risk of annuities and single premium lifeIt was based on cash flow testing of reservesOriginally, only companies that triggered one of two tests for materiality. That was changed to a majority of the companies for year-end 2006.The current calculation may be changed to a CTE methodology for modeling similar to the C-3 Phase II methodology.
16 C-3 Phase IIInterest rate risk and market risk of annuities with guaranteed benefitsVAGLB (Variable Annuity with Guaranteed Living Benefits)GMIB (Guaranteed Minimum Income Benefit)GMDB (Guaranteed Minimum Death Benefit)Modeling using a CTE approachRelatively small number of companiesC-3 Phase IIWas for interest rate risk and market risk of annuities with guaranteed benefitsA VAGLB is a Variable Annuity with Guaranteed Living Benefits. This is a feature of certain variable annuities that provides benefits greater than the contract value under certain conditions.A GMIB is a Guaranteed Minimum Income Benefit. A GMIB would be a VAGLB for which the benefit is contingent on annuitization of a variable deferred annuity contract.A GMDB is a Guaranteed Minimum Death Benefit. It would be a VAGLB for which a guaranteed benefit is contingent on the death of a contract holder, annuitant, participant, or insured. Modeling would be done using a CTE (conditional tail expectation) approach. The modeling would calculate a total asset requirement (TAR)A relatively small number of companies were affected. Less than 90 companies calculated an RBC amount the first year and less than 70 the second year.
17 C-3 Phase III Interest rate risk and market risk for life products Modeling using a CTE approachAffect a large number of companiesC-3 Phase III is currently under consideration. Several AAA reports have been released for comment and a final or close to final report would be expected soon.C-3 Phase III would cover interest rate risk and market risk for life productsIt would also do modeling using a CTE approach similar to C-3 Phase II.C-3 Phase III would affect a large number of companies unlike Phase II.
18 C-3 Phase IV Interest rate risk for all annuities Modeling using a CTE approachReplace current C-3 Phase I and perhaps Phase IIA report on C-3 Phase IV is expected soon.It would cover interest rate risk for all annuitiesPhase IV would also use a CTE approach to modeling.It replace current C-3 Phase I and perhaps Phase II (that has not been decided at this point)
19 Future Combine C-3 Phases into one ? Asset Risk ? Insurance Risk ? Comprehensive internal models ?The future of a principles-based approach for capital might include the following:All the C-3 Phases might be combined into one consistent methodology.The modeling of asset risk might be done.The modeling of insurance risk might be done.Perhaps the use of more comprehensive internal models addressing all the risks of the company.
20 Future (Continued) NAIC Overarching Consideration: Capital standards and compliance measurements should be firmly rooted in an auditing, accounting, and actuarial context that is cost-justified, practical, and workable.Especially, when regarding an adversarial regulatory action that must proceed based on legal findings.Any future RBC changes will need to fit into the overall RBC framework to ensure the capital standards and compliance measurements are firmly rooted in an auditing, accounting, and actuarial context that is cost-justified, practical, and workable.This especially true regarding an RBC regulatory action that needs to be justified in a legal proceeding. This was one of the reasons why a formula-based approach had been chosen when the NAIC RBC was first developed.
21 THANK YOU Walter Bell NAIC President and Alabama Insurance CommissionerVice Chair of IAIS Executive Committee