06 January 2010

Published in: Corporate strategy, Capital - models, Risk governance, Software, Regulation - supervision

Better integration and communication of risks needed

This should be the aim of insurers in 2010, along with a more pragmatic approach to modelling and lobbying for simpler regulation. Industry experts outline these and other developments they'd like to see in ERM this year

Vicky Kubitscheck, partner, Independent Audit

We don't need more regulation but we do need regulators to give more air time, guidance and encouragement to insurance companies on how to build the right foundations for sound decision-making. The rules, including those provided by Solvency II, already cover these principles but implementation of the technical elements seems to dominate discussions.

If, however, firms are to embrace ERM, then they must truly embrace the "enterprise-wide" part. Risk managers must help the key decision-makers in the boardroom to be clear about the type of risks they are willing to take (risk appetite/tolerance) and then be sufficiently informed to allow them to make appropriate decisions.

ERM in 2010 should therefore focus on developing the application and governance aspects of risk management: in other words, ensuring there is a link between business strategy, appetite for risk and decision-making.

Andrew Harley, director, EMB

I would like to see every insurer in Europe taking part in the fifth quantitative impact study for Solvency II in the second half of 2010. We've just completed some analysis on the effect of some of the proposed implementation measures on the solvency capital requirement, and have found companies looking at capital increases in the region of 50% in some areas.

Having more CROs at board level would also be good for driving ERM forward. However, let's not think that one person can "fix" ERM in a company.

Gregor Pozniak, secretary general and Silvia Herms, senior advisor, Association of Mutual Insurers and Insurance Cooperatives in Europe (AMICE)

Special attention must be paid towards potentially big risks. History shows that really big crises hit the insurance industry at least once every 20-30 years, but it seems that the industry has not been able to realize the existence of -- and assess -- such risks early or seriously enough. Two examples of a "big hit" are the reinsurance crisis in the 1980s and the 2008 financial crisis created by the risks inherent in financial structures.

Charl Cronje, partner, Lane Clark & Peacock

A welcome development would be gathering a political consensus across Europe to rein in some of the complexities of Solvency II compliance and to compromise on certain theoretical principles that are impractical to implement. Many insurers are making significant investments to strengthen their management information, internal controls and risk management. Our hope is that the final structure of Solvency II will enable them to reap the rewards of this investment, rather than tying them up in an increasingly sophisticated box-ticking exercise.

Colin Ledlie, chief risk officer, Standard Life

I'd like to see a sensible and measured final set of regulations for Solvency II that promotes and encourages good risk management.

Peter McGloughlin, director, insurance solutions, financial markets, Lloyds Banking Group

Solvency II, the FSA's retail distribution review and IFRS Phase 2 are all planned over the next few years. This will place significant resource demands on insurance companies which may have unintended consequences (like the pro-cyclical effects of mark-to-market accounting). I would therefore like the industry to ask: "Is it wise to change so much at the same time?"

CROs and ERM professionals should have more interaction with the regulators and the industry needs to help shape the future of regulation as much as possible so that insurance remains an attractive and profitable business for the capital deployed.

There must be a more pragmatic approach. For example, many regulatory regimes dictate that insurers derive the risk-free rate from the triple-A government bond curve and hence hold a large amount of triple-A government bonds against their liabilities. However, if a country's debt were downgraded, should an insurer with liabilities in the same country continue to hold that government's debt?

Neil Cantle, principal and consulting actuary, life practice, Milliman

It would be encouraging to see more evidence of people explicitly considering how risks might arise and spending as much time thinking about how risks really work as they do on modelling them. There needs to be wider acceptance of the fact that risk management is not just about building clever models.

The models are very important because they help to explore non-linear features of risk dynamics and help to quantify the exposures. However, models are a codification of an understanding of the risk profile faced by the business, and arguably there is still insufficient effort being put into that "understanding" part. There is a lot of evidence to show that "it is what a firm does not know which will harm it," and that risks are not as simple as people have so far pretended.

Margarita von Tautphoeus, head of solvency consulting, Munich Re

A stronger focus should be put on developing and implementing strategic risk management framework approaches: establishing limit and trigger systems which are both efficient and practical to support risk- and value-oriented business steering.

Professionalism in risk management will be a decisive success factor. Effective regulation on an international level is vital both for the client's protection and financial stability on the basis of a level playing field. The new European Insurance and Occupational Pensions Authority (EIOPA) will certainly help to implement Solvency II in a uniform and consistent approach. But we must also learn from the crisis that the insurance industry is much more stable than the banking industry. Undue conservatism with regard to equity requirements or strictness of rules would not be a reasonable reaction. Sticking to the accepted economic principles of Solvency II will help the aim of financial stability.

George Stylianides, risk and capital partner, PricewaterhouseCoopers LLP

The insurance industry needs to demonstrate better integration between risks and business processes. The economic value of ERM needs to be fully accepted at all levels of the business. This will require a change in mindset. The economic environment is likely to remain volatile for a couple of years and companies which have more integrated processes or a better risk mindset will gain a competitive advantage.

Martin Sher, managing director, SolveXia

I'd like to see the development of processes, controls and capacity to run models more frequently and with quicker turnaround times. This requires a focus on the technology required to support Pillars II and III of Solvency II and not only the Pillar I analytics.

Some companies are tending to focus heavily on the analytics aspect without considering what the full end-to-end process might look like, how several different tools might be used and linked together and how integrated reports might be produced. The tools being considered, such as multiple modelling systems, data-collection tools, risk aggregators, data warehouses and reporting tools will need to be integrated and companies may find that there is a substantial challenge in tying these together.

Jacob Rosengarten, chief enterprise risk officer, XL Capital Ltd

The continuing challenge for ERM is to make sure that it is fully integrated into what a firm does, as opposed to it being a "risk appendage" to existing operations. This is easier said than done. It requires that firms have a culture -- and processes that reinforce that culture -- which encourages ERM to succeed.

Examples of cultural elements that help ERM succeed are:

1. The establishment of an active ERM committee to serve as a point of managerial convergence where risk topics can be identified, vetted and discussed. The committee's topics and findings should be a catalyst to drive change. The committee should be a decision- making body and thus have the firm's most senior leadership included in its membership. Members of the committee should be capable of wearing two hats - the hat of the business or activity that they represent and the hat of the enterprise taken as a whole;
2. The establishment of internal metrics to help gauge the existence and effectiveness of ERM activities;
3. The integration of ERM effectiveness into compensation plans; and
4. Establishing separate board committees to address ERM and risk management matters, or ensuring that existing board committees have risk management matters formally identified as key to their remit.

Justin Elks, associate director, risk, Just Retirement

The first development in ERM I'd like to see next year is a sensible resolution - one which reflects economic reality -- to the illiquidity premium debate. The second development I'd like to see is the continuing integration of all risk management disciplines - risk management is about getting a rounded view of risks, and the best understanding comes from integrating different backgrounds and skills together.

I would also like to see a reduction in the volume of CEIOPS papers - so I get my weekends back!

 

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