Solvency II’s final dry-run test, the fifth quantitative impact study, has been hailed as a success by industry bodies and regulators. However, with Solvency II’s implementation date drawing closer, many concerns still surround certain aspects of the regulatory regime that pertain to life insurance business.
All is well with the insurance industry in Europe, industry body the Comité Européen des Assurances (CEA) has declared following release of the results of the fifth and final Solvency II quantitative impact study (QIS5). The study was conducted between August and November 2010 by the European Insurance and Occupational Pensions Authority (EIOPA) in preparation for implementation of the new regulatory regime by all European Union member states at the start of 2013.
In a statement the CEA said: “The QIS 5 results, which are released today by the European Insurance and Occupational Pensions Authority, highlight the strong financial position of European insurers despite a difficult market environment. The QIS5 results show that capital levels tested against the solvency capital requirements (SCR) under Solvency II remain sound.”
According to EIOPA, almost 70% of insurance and reinsurance companies under the scope of the Solvency II directive participated in QIS5, up from the 33% that participated in QIS4. The EIPOA was formally called the Committee of European Insurance and Occupational Pensions Supervisors. Of insurers participating in QIS5, 15% failed to cover the SCR under Solvency II.
Rating agency Moody’s Investor Services noted that while specific companies are not cited in the results, those that failed to participate at all and those that produced solvency coverage ratios below 100% are smaller entities with little business diversification.
“The results confirm our view that few of our rated insurers need to raise capital because of Solvency II implications,” stated Moody’s.
EIPOA drew a conclusion from QIS5 similar to that of the CEA.
“Overall, QIS5 showed that the financial position of the European insurance and reinsurance sector assessed against the solvency capital requirements of the Solvency II directive remains sound.”
EIOPA added that currently, insurance companies who participated in QIS5 hold €395bn ($550bn) of excess capital to meet their SCR and excess capital of €676bn to meet their minimum capital requirement.
According to EIOPA, mainly because of lower asset values, the capital surplus of insurers and reinsurers was lower than under the still applicable Solvency I rules. Specifically, compared to the calculation under Solvency I standards, insurance groups have €86bn less surplus capital available, which represents a reduction of 44%.
However, highlighting the significance of insurers developing their own internal risk models rather than using the standard formula, EIOPA stressed that the QIS5 exercise demonstrated that the capital reduction effect would be absorbed if insurance groups apply internal models to calculate Solvency II SCR. This would have limited the reduction of the capital surplus to about 1% or €3bn across participating insurers, noted EIOPA.
Indeed, Moody’s noted that insurers groups that used an internal model to calculate their SCR showed a 6% increase in surplus capital when moving from Solvency I to QIS5, compared to the 44% reduction in surplus for groups using the standard formula.
“This confirms our view that large, well diversified groups with robust and entrenched risk-management and internal models are best placed to transition to Solvency II,” stated the rating agency.
“Despite the insurance industry’s successful performance in QIS5, adjustments need to be made to some measures,” CEA president Tommy Persson said. “The [European] Commission is correct that the issue of the sensitivity of the Solvency II framework to market volatility must be addressed.”
Persson said that the insurance industry is also adamant that expected profits in future premiums must be treated as Tier 1 capital.
“This is a key feature of a risk-based economic regime,” stressed Persson. “There must be no disincentive to offering regular premium products.”
The CEA has also expressed concerns about treatment of long-term business and guarantees, concerns that are shared by the Association of British Insurers (ABI).
“There remain a number of outstanding issues in Solvency II, particularly the treatment of some long-term products which carry guarantees for consumers,” said ABI director of financial regulation and taxation, Peter Vipond. “We need some practical changes to the current rules so these can continue to be written for the benefit of consumers and in a way which is not pro-cyclical.”
Summing up the CEA’s view, Persson said: “A lot is at stake here. Solvency II is an innovative and ground-breaking regulatory regime that should enhance the position of the European insurance industry through its combination of capital requirements complemented by qualitative supervision. We must nevertheless be vigilant that it does not inadvertently have adverse effects on the market.”
Underscoring the significance of his comment, the European Commission is currently drafting its proposals for the implementing measures that provide the technical detail of the Solvency II Framework Directive which was agreed on in 2009.
The commission is expected to present the implementing measures by the end of 2011 and its directive to be transposed into national legislation in all European Union member states by 31 December 2012. How certain that deadline is remains to be seen.
“The current [Solvency II] schedule is on a knife edge in terms of what is practically achievable,” Vipond observed.