A report from Deloitte, the business advisory firm, highlights how insurers are preparing for the introduction of Solvency II by changing their approach to calculating capital adequacy requirements. Conducted by the Economist Intelligence Unit, the latest edition of the annual Deloitte Solvency II survey of insurers found that:
• More than half (51%) of respondents plan to change their approach to calculating regulatory capital, and of those, 60% have increased the sophistication of their approach;
• Of those who are changing their approach, 37% are switching from a partial internal model to a full internal model and 23% have moved away from the standard formula approach;
• However, 40% of those changing their approach have chosen a simpler method, with 10% moving from a full internal to a partial internal model, 13% moving from a partial internal model to the standard formula and 17% from full to standard.
Insurers use risk models to calculate capital adequacy requirements, and under the Solvency II rules – scheduled to be implemented in January 2014 – insurers can adopt an internal model (full or partial) or standard formula. Internal models may be more expensive than the standard formula to implement and run, but they can give insurers a clearer picture of their risk and reduce their capital requirements.
Last year’s survey found that half of respondents had decided on a full internal model to calculate capital adequacy requirements, 30% a partial internal model and 20% standard formula.
Rick Lester, lead Solvency II partner at Deloitte, said:
“Solvency II forces insurers to analyse the risks they run across their business and determine the level of capital they need to hold. Risk models lie at the heart of the rules and enable insurers to calculate capital requirements in line with the level of risk they are taking.
“Insurers use internal models if they believe they are a better reflection of their risk profile than standard models. There is a cost to adopting them, but there are also potential benefits because they can give a better understanding of risk, which should enable better business decisions and may ultimately lead to lower capital requirements.”
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