By Simon Sheaf, General Insurance Actuarial Practice Leader at Grant Thornton
The regime has remained broadly static for many years. However, that could be about to change with the onset of Solvency II and Lloyd's recent suggestion that syndicates consider rotating the actuary that signs the SAOs.
So, it seems an opportune moment to consider the SAO regime as it is today, and where it may be heading in the future.
The market's view
A survey we recently undertook of senior executives in the Lloyd's market indicated that 86% believed that the SAO is needed and 79% agreed that the SAO could be of benefit to the syndicate. Interestingly, the feedback from actuaries and non-actuaries was very similar with actuaries actually being slightly more doubtful regarding the benefits that syndicates obtain.
This positive view of the regime suggests that managing agents understand and appreciate the benefits of the system, despite the fact that we often hear grumbles in the market about the cost of obtaining SAOs. It would appear that the market views SAOs as a necessary evil. Perhaps the best analogy is to the view of the external audit, where management are clearly cognisant of the benefits but can still be somewhat resentful of the costs.
Who signs?
The majority of SAOs continue to be signed by external consultants, although we have seen an increasing number of SAOs move in house over the last few years.
When our survey asked the reasons for getting SAOs signed externally, by far the most common motivation was the independent perspective which garnered 84% of the responses. However, respondents also cited resource constraints and the benefits to be obtained from the consultant's wider market knowledge.
Based on these results, it appears that the majority of SAOs are going to continue to be signed externally for the foreseeable future, despite the slight trend of the last few years.
Rotating the signing actuary
Last December, Lloyd's suggested that if a signing actuary has been in place for several years, the managing agent should review whether to change them. We note that Lloyd's introduced this suggestion in as gentle a way as possible – it suggested managing agents consider a review rather than instructing them to undertake one, it made it clear that the result of the review could be no change and, even if the managing agent decides to make a change, it said that it was acceptable to stay with the same consultancy and merely switch to another of their actuaries. Nevertheless, this potentially represents a significant development for the SAO regime.
We believe this to be an eminently sensible suggestion which brings the requirements for signing actuaries more in line with the requirements for auditors. What is more, the majority of the market appears to concur as 59% of respondents to our survey agreed with this suggestion. Of course, this still leaves a sizeable minority who disagree.
When we asked about the appropriate period of rotation, the most popular answers were five years (with half the vote) and seven years (with a quarter). This is despite the fact that Lloyd's suggested four years (which only received 15% of the vote). We strongly suspect that the preference for five or seven years is to be consistent with audit requirements where the audit engagement partner has to be rotated every five years with the possibility to extend this to seven years.
The selection of an appropriate period of rotation really boils down to achieving a balance between the extra value a signing actuary can add when familiar with the syndicate and its business, and guarding against the risk of the actuary "going native" and being unduly influenced by management's views.
Solvency II
The advent of Solvency II has the potential to impact the SAO regime. We understand that the Prudential Regulation Authority intends to make SAOs a handbook requirement for Lloyd's syndicates under Solvency II. Consequently, it is clear that SAOs are here to say.
Lloyd's recently said that it would expect to see some interaction between the SAO requirements and the actuarial function under Solvency II. However, what that interaction would look like was left to the imagination, presumably because no final decisions have yet been taken.
One possible change concerns the accounting basis used for the SAOs. Currently, they are prepared on a statutory accounting basis but, under Solvency II, should this approach be maintained or should they be prepared on a Solvency II basis? One argument for the latter is that it would fit in better with the requirements of the Actuarial Function.
Our survey showed a split of views on this issue with 58% opting to stay with the statutory accounting basis but 42% wanting to switch to a Solvency II basis. This appears to indicate that whatever Lloyd's ultimately decides, it is not going to be able to please all of the people all of the time.
Considering open years separately or in aggregate
Currently, the signing actuary is required to sign off on the reserves for each open year of account, rather than on all years in aggregate. Such an approach is clearly important for those syndicates whose portfolio of names change from year to year.
However, the rise in fully aligned syndicates whose capital is provided by a single entity or a small, stable group of entities means that the reasons for signing off on each open year separately are no longer relevant for the majority of syndicates. Consequently, the suggestion that has been mooted for several years is that, for such syndicates, the SAO need only consider the open years in aggregate.
Our survey indicated that 70% of the market would be in favour of such a change, which is not surprising considering the predominance of fully aligned syndicates. However, we note that any such change would have to retain the separate sign off of each open years for syndicates whose capital provider or providers change between years. Whilst far from insurmountable, this would add a further complication to the regime.
Nevertheless, we believe that this would be a sensible change to make. It would at least eliminate the artificial situation we often encounter where the signing actuary is above the syndicate's reserves on one year but below them on the other years. This can lead to extensive debate and discussions between the actuary and the syndicate despite the fact that, if the actuary was able to consider all years in aggregate, there would be no issue.
In conclusion
It is clear that the SAO regime is here to stay and our survey indicates that most of the market will welcome that. However, changes to the regime may well be afoot and many of these will also be welcomed by large sections of the market.
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