1. INTRODUCTION TO RISK-BASED SUPERVISION Taliya Cikoja – IOPS Secretariat www.iopsweb.org IOPS TOOLKIT RISK-BASED SUPERIVSION

2. What is Risk-based Supervision? A structured approach focusing on identifying potential risks faced by pension funds and assessing the financial and operational factors in place to manage and mitigate those risks Objectives of RBS Direct limited supervisory resources towards institutions that poses the greatest threat Supervisory resources and attention will follow identified risks in a forward looking fashion – identifying where problems are likely to occur Advantages of RBS Maximises the use of scare supervisory resources Significant problems will be identified in forward looking and timely fashion and will be remedied effectively Encourages pension funds to minimise their risk exposures to receive less attention by the supervisory authority Adaptable to different market situations, pension systems and supervisory philosophies 2

3. Applying risk-based supervision Can be applied in many different ways Quantitative measures of risk vs. qualitative judgement of risk management Risk-scores for each entity vs. analysis of risks systemic to pension system Identify weak areas within a supervised entity vs. which institutions amongst thousands may pose the greatest threat Elements common to all RBS systems Determine objectives of supervisory authority + greatest risks to these Assess hazard or adverse events + likelihood of these occurring Assign scores and / or ranks to firms or activities based on assessments Link supervisory, inspection and enforcement resources to the risk scores assigned to individual firms or system-wide issues 3

4. Combine ‘rules’ and ‘risk’ based approach 4

5. Risk-based supervision for pensions 5 The Basic Risk Management Architecture For the InstitutionFor the Supervisor  Risk management strategies  Board committees  Risk management functions in the managerial structure  Internal controls  Reporting responsibilities  Regulations, including minimum risk management standards  Risk-based solvency rules  Risk scoring model guiding supervision actions  Internal organisation of the agency, with specialist risk units Market Discipline The contributions of the actuary, auditor, fund members, rating companies, and market analysts to sound risk management

6. Risk-based Supervision DB vs DC RBS for DB RBS for DC Capital support from sponsor – soundness of plan sponsor Solvency and funding key issues Assessment of asset / liability mismatch Capital support not an issue - individual members bear risk Focus on risk-management systems Member disclosure, investment returns and pension fund costs 6 The structure of pension funds presents differing risk perspectives

7. Why adopt Risk-based supervision? To improve supervisory effectiveness and efficiency To address internal organisational concerns To adapt to changes in the overseen industry To gain legitimacy following supervisory failure To meet requirements imposed by legislation To adapt to the changing nature of financial risks themselves, as these become more complex and - with the growth of DC pension systems - are increasingly transferred to individuals To provide pension funds with value-added feedback resulting in more effective management of significant risks. 7

8. Risk-based Supervision Process 8

9. Challenges to introducing RBS Combining simplicity with complexity Knowledge and data Ensuring that assessments of firms are forward looking Going beyond the individual firm in assessing risk Structure and operation of internal risk governance processes Changing the culture to embed the risk based approach across the whole organization Managing blame Making resources follow risks 9

10. Lessons Learnt Adaptation of Models - consult widely and adapt carefully/ build flexibility for upgrades, pilot test Application of Models – know weaknesses / consider ‘tail risk’/ use in conjunction with supervisory judgment Data Collection – use existing where possible / power to collect additional / plan scope and scale / collect electronically Reorganisation of the Supervisory Authority – allow plenty of time to adapt Staff – on-going train for all on philosophy as well as process Industry – explain new approach and what is expected of them Powers – make sure supervisory authority has necessary and flexible powers Risk-based solvency – apply flexibly in volatile conditions / counter-cyclical Systemic risk – build in macroeconomic and systemic risks into analysis Think in terms of achievability – target resources for maximum impact It is worth doing! 10

11. IOPS Toolkit for Risk-based Supervision 11