Tag Archives: RBC

Major Regulatory Change in Asia-Pacific

The global insurance industry is undergoing significant regulatory change, with regulators in the more developed markets endeavoring to synchronize their efforts. Similar occurrences can be observed in the Asia-Pacific region, where a number of countries are reviewing and undergoing changes in their approach to insurance regulation and holistic risk management. Most notably, a number of regulators are either introducing risk-based capital (RBC) or revisiting their existing RBC frameworks. The maturing regulatory approaches in Asia-Pacific will be a significant factor in managing systematic risk and enhancing policyholder protection.

Asia-Pacific is different

While the proposed RBC framework in Asia-Pacific may have similarities with the European Solvency II standard, there is wide disparity in the level of sophistication and application. Many of the changes are being driven by local market nuances, such as characteristics of the insurance products being sold and maturity of the insurers who operate in the various jurisdictions.

For example, Australia has recently implemented its second-generation solvency regime. Singapore and Thailand are consulting with the industry on second- generation RBC frameworks, while others such as China and its Hong Kong SAR are considering moving in that direction. These moves are particularly encouraging in providing a regulatory framework that will allow for a degree of consistency, especially for those insurers that have multiple offices across the region.

In addition to the changes in reserving and solvency calculations, a number of regions are also strengthening their risk management efforts (e.g., China with C-ROSS). This exemplifies how regulators are paying more attention to embedding risk management activities in the business. They look to ensure that senior management has sufficient oversight to allow them to consider and discharge their fiduciary responsibilities. It is important that organizations have an operational infrastructure and that the risk profile is within business risk appetite levels.

What does this mean for insurers?

Advances in regulation in the Asia-Pacific region
are far-reaching. The implications are expected to improve the way businesses will operate to create long-term sustainability. These implications, in our view, will affect product offerings, investment strategy, capital utilization, risk transfer opportunities and infrastructure.

In particular, we foresee several implications:

• Robust regulatory framework will provide comfort to the overall financial soundness of the insurance industry. However, the cost of regulatory compliance is expected to increase significantly.

• Changing regulations will provide more room for innovation and incentives to enhance or change organizational metrics. Better-managed companies will potentially benefit from lower capital requirements, making their products more attractive.

• Companies traditionally focusing on new business value will have to rethink the continuing profitability of past years and will need to understand options available for in-force value management. This will be particularly crucial given that existing forms of new business may be capital-intensive.

• A better understanding of the business risk profile will be needed. This will necessitate implementing sophisticated techniques in modeling/optimizing risk- adjusted returns and outlining a more systematic process for risk appetite.

• Investment will be required to enhance the modeling and reporting systems to meet regulatory timelines.

• Convergence of regulations toward RBC will also mean that there is less disparity between local and foreign players. This will make Asia-Pacific insurance markets potentially more attractive for foreign investments. Moreover, customers may eventually benefit from new ideas and solutions from both foreign and domestic insurers. This will create a healthy competitive market place for policyholders.

Challenges and opportunities

Based on experience in more developed insurance markets, changes in regulations produce both challenges and opportunities for insurers. In the short term, it is anticipated that there will be more investment demands on insurance companies. Insurers have the prerogative to make the best use of these investments to define long-term opportunities.

In Europe, for example, some insurers have used Solvency II as a means to further enhance their risk management systems, capital allocation mechanisms and reporting infrastructure, and redefine their key performance Indicators. This, in turn, has convinced shareholders and analysts that investments because of regulatory changes should not be for mere compliance, but rather as a means of enhancing competitive advantage. We believe that insurers in Asia-Pacific should draw upon the experiences and challenges in more developed markets to establish an approach for Asia-Pacific markets that considers regulation, economic nuances and the purchasing behavior of policyholders.

Looking ahead

There will be many changes within the industry over the next few years, and companies will need to consider the operational implications for their businesses. Based on our conversations and experience in the region, we see an increasing number of insurers making adjustments to their future business plans and investment needs. Some of these modifications are tactical, such as enhancing their existing processes, while others have the potential to have a wholesale effect on entity rationalization and strategic initiatives, such as capital optimization.

We are very engaged with the regulators, industry bodies and insurance companies in the emerging discussions and are helping insurers to consider these regulatory changes with a strategic mindset.

China

The China Insurance Regulatory Commission (CIRC) has adopted a factor-based solvency system similar to Europe’s Solvency I regime. It is composed of internal risk management, solvency reporting, financial analysis and supervision, regulatory intervention and bankruptcy remediation. This solvency regulation system was built from 2003 to 2007.

Over the past 30 years, the Chinese insurance market has become one of the fastest-growing in the world, and its complexity and risk have increased accordingly. The existing static solvency system no longer properly reflects asset and liability risks facing insurance companies. Therefore, it has limitations in providing good guidance for insurers to improve risk management quality and capabilities.

Globally, there is a trend toward more risk-oriented regulation and governance, such as Europe’s Solvency II, the US NAIC’s solvency modernization initiative and Singapore’s RBC 2.

Developing a new solvency system for mainland China would not only meet local market needs but could also provide pragmatic and invaluable experience for other emerging markets, as well as the international insurance community.

Australia

Australia has two primary supervisory authorities, the Australian Prudential Regulation Authority (APRA) and the Australian Securities and Investments Commission (ASIC). Both bodies have authority over the entire retail financial sector, comprising deposit-taking institutions, life and non-life insurance companies, friendly societies and superannuation schemes. APRA is responsible for the licensing and prudential regulation of financial institutions, while ASIC deals with consumer protection issues.

The most significant recent enhancement to the regulatory regime is the capital adequacy framework and draft conglomerate supervision. This is supplemented by a corporate governance regime.

Hong Kong

The insurance industry in the Hong Kong SAR has witnessed considerable growth in the past decade. As of Oct. 14, 2014, there were 155 authorized insurers in Hong Kong, including
44 long-term insurers, 92 general business or non-life insurance companies and 19 composite insurers (i.e., life and non-life insurers).

In Hong Kong, the Office of the Commissioner of Insurance (OCI) is the Insurance Authority (IA) under the Insurance Companies Ordinance (ICO) and oversees the financial conditions and operations of authorized insurers. The OCI is part of the Financial Services and the Treasury Bureau of the Hong Kong Government.

India

The Indian life insurance industry has witnessed a phenomenal change in the last 14 years since it was opened to private players. It experienced strong growth (a CAGR of 30%) for almost a decade, until a wave of regulatory changes capped charges for unit-linked products. This compelled insurers to shift focus from unit-linked investments to traditional protection products, significantly slowing industry growth. With reduced shareholder margins on unit-linked plans, sales of traditional products have increased and now constitute at least half of new life insurance business, whereas unit-linked plans are facing negative growth.

General insurers have seen growth of 16% CAGR over the past decade. This is attributed to the evolving regulatory environment, new private companies entering the market, changing demographics, greater disposable income and business development in the corporate sector. In fact, growth was significantly higher in the financial year 2012–13 — up 24%, primarily as a result of policies sold and rate adjustments.

Against the backdrop of a relatively underpenetrated market, there is a significant potential for sustainable long-term growth. Currently, there are 24 life insurance and 28 general insurance companies in the market. A few mergers and acquisitions are in the pipeline.

The industry today is in a state of flux. Surrounded by political uncertainty, slower economic growth, regulatory changes and increased competition, insurance companies are looking to increase profitability, manage expenses and improve persistency.

Indonesia

Indonesia is one of Southeast Asia’s largest economies and presents a huge untapped market for the insurance industry. An expanding middle class and the young demographics of the population is creating a vast platform for savings and investment products, and as life insurance continues to show exponential growth, the microinsurance market is gaining traction with low- income consumers.

Against this backdrop, the Indonesian insurance industry is being shaped by changing regulations and stricter capital requirements that are aimed at introducing greater transparency and stability. In this transformed regulatory landscape, there are more new entrants to the market and greater opportunities for mergers, acquisitions and joint partnerships.

Malaysia 

Malaysia has a well-developed, stable economy that continues to attract insurers. The GDP is growing at nearly 6%, and unemployment and inflation are relatively low. Demographics and strong economic growth have helped to develop a strong market for takaful insurance and bancassurance. In recent years, the country has undertaken wide-ranging reforms aimed at improving regulatory efficiency and opening the door to greater competition in financial services.

The Malaysian insurance industry, like others in the Asia-Pacific region, is struggling with depressed investment returns, higher volatility in capital markets and increased pressure on the cost of capital. Against this business landscape, the industry appears to welcome regulatory changes. However, there are also concerns that some of these changes are diverting attention from key issues, such as improving portfolio returns and new business.

Singapore

The Monetary Authority of Singapore is finalizing the risk calibration and features of the RBC framework, with implementation expected from Jan. 1, 2017.

The RBC framework for insurers was first introduced in Singapore in 2004. It adopts a risk-focused approach to assessing capital adequacy and seeks to reflect most of the relevant risks that insurers face. The minimum capital prescribed under the framework serves as a buffer to absorb losses. The framework also facilitates an early intervention by the Monetary Authority of Singapore (MAS), if necessary.

While the RBC framework has served the Singapore insurance industry well, MAS has embarked on a review of the framework (coined “RBC 2 review”) in light of evolving market practices and global regulatory developments. The first industry consultation was conducted in June 2012, in which the MAS proposed a number of changes and an RBC 2 roadmap for implementation.

South Korea

The regulatory authority for the Korean financial services industry, the Financial Supervisory Service (FSS), introduced RBC in April 2009. In replacing the Solvency I requirement, the RBC scheme aims to strengthen the soundness and stability of the overall insurance industry.

In the rapidly changing insurance market, FSS has to review the RBC regime continuously to ensure that it serves the intended purpose. This effort included some changes in 2012, such as subdividing capital classes and categorizing risk factors in accordance to the types of risks transferred to insurance companies. Moreover, FSS enhanced the RBC calculation methodology by adding reverse margin risk as part of interest rate risk in 2013 and by raising the confidence level of risk factors for insurance risk early in 2014.

In light of the recent enhancements, some insurance companies’ solvency margin ratio has fallen below the FSS’s recommended ratio of 150%. As a result, these insurers have had to raise capital through alternative options such as issuing subordinated bonds.

Thailand

The Office of Insurance Commission (OIC) implemented a risk- based capital (RBC) framework and gross premium valuation (GPV) regime in Thailand in September 2011.

The OIC rolled out two phases of parallel tests before the actual implementation of the RBC framework to gauge the impact on insurers and to gather industry response. The solvency requirement was also increased from 125% at the initial implementation to 140%. This became effective Jan. 1, 2013, to give insurers more time to respond to the changes.

In 2011, the Thai regulator granted temporary RBC exemptions and relaxed some of the restrictions. This was an effort to help local general insurers overcome financial difficulty caused by flood losses that occurred that year, as the floods coincided with implementation of the RBC framework.

The OIC rolled out two phases of parallel tests before the actual implementation of the RBC framework to gauge the impact on insurers and to gather industry response.

Insurance Risk in Latin America

Latin America’s compound growth remains attractive and yet, overall, insurance penetration rates still remain low in many countries. Particularly in life insurance, despite continuing economic growth and reduced poverty levels, penetration is low, suggesting there is still significant growth ahead for the insurance sector. We have seen significant reforms across the region from both a fiscal and regulatory standpoint, in everything from capital and exchange controls to consumer protection. We believe a key challenge for insurers over the next decade is navigating this rapid acceleration toward modern regulatory and operational realities.

Around the world, regulators are setting the expectation that insurers will raise their game. The trend is clear, toward better risk management, better governance, more precise measurement of capital in a risk sensitive way and more detailed and transparent reporting to regulators.

We presented our first report for Latin America in 2012, focusing on risk-based capital (RBC) and emerging regulations in four markets: Argentina, Brazil, Chile and Mexico. We have expanded our coverage and also added Colombia, Peru and Uruguay to our new overview.

In the past two years, each Latin American market has faced a different journey to a risk- and economic value-based solvency framework. More open markets in the Pacific Alliance (Chile and Mexico) have enhanced their risk management processes, while Brazil is seeking Solvency II equivalence by 2016. Mexico’s new law, modeled on Solvency II, is likely to be implemented ahead
of the rest of the world. Peru and Uruguay have no immediate plans to pursue a Solvency II approach. Although both countries are attracting foreign investment, the market size and number of players are impeding regulation. With Argentina’s high inflation and economic concerns, adopting an RBC framework in the short term is unlikely.

The challenge to understanding Latin America remains that most insurers in the region are not well-prepared for the expected changes in governance, risk management, capital requirements and reporting. At EY, we believe that effective risk management and the ability to quantify and price risks accurately are a core competence for a successful insurance company. We also observe globally that the leading insurers will typically look to define their own vision for their capabilities in these key areas, rather than simply following the iteration of each piece of regulation. Leading firms will also typically go on to deploy these capabilities more quickly and effectively across their businesses at the point of decision making, and being ahead of competitors in this way is a source of clear commercial advantage.

Argentina

The Argentine insurance market has made minimal progress in its approach to RBC in recent years. As other Latin American countries take steps toward Solvency II equivalence, Argentina is only superficially addressing this issue. In a country experiencing high inflation, tight regulation and fluctuating economic market concerns, RBC is only one in a long list of initiatives on the regulatory agenda of the Superintendencia de Seguros de la Nación (SSN).

Nevertheless, insurance is a fast-growing industry that continues to show resilience in premiums and tolerance for expansion in a challenging environment. Annual growth percentages are measured in Argentine pesos, so the inflation rate has a significant impact on those figures. As of 30 June 2013 (last fiscal year-end), there were 184 companies (108 in property/casualty) writing insurance in Argentina – with 29 new companies added in the past two years. International players continue to make acquisitions to enhance their positions in the industry. Growth has been most prominent in workers’ compensation and motor insurance, producing increases of 42% and 35%, respectively, from June 2012 to June 2013.

Brazil

The Brazilian insurance market continues to achieve double-digit growth. The industry is witnessing a series of mergers and acquisitions and the arrival of multinational insurance and reinsurance companies, mostly from Europe. In addition, the sector experienced the largest initial public offering in the world last year, when BB Seguridade raised approximately US$5.75 billion in the BOVESPA stock exchange.

Although national bancassurance players dominate the Brazilian insurance market, international insurance companies continue to grow at a higher rate through M&A and strategic alliances.

Given the continuous growth in the market, the Brazilian regulator, Superintendência de Seguros Privados (SUSEP), is working with the European Insurance and Occupational Pensions Authority (EIOPA) to achieve Solvency ll equivalence in Brazil. This will facilitate the investment of European insurance companies in Brazil and Brazilian companies in Europe. SUSEP will sign an agreement that will adopt Solvency ll rules partially or fully by 2016, based on a comparative study that EIOPA will perform to measure Brazilian regulation against the Solvency II regime.

Chile

The insurance market in Chile continues to shift from its present regulatory framework to a more sophisticated RBC approach to solvency assessment that better reflects current industry risks. New methodology proposed by the Superintendencia de Valores y Seguros (SVS) is an important step toward building an integral and holistic RBC model.

The Comframe capital framework implementation requires each risk category to be managed individually, with most supervision on a product-by-product basis. Most insurers will need to improve their risk function or implement a holistic approach to risk management. Also, local skilled resources are scarce for the level of technical knowledge imposed by this regulation. Many will need to develop better data analytics, systems and precise risk measurement if they are to increase capital efficiency and profitability.

Chile is one of the more stable markets in the region, primarily because of tight controls over insurance products and asset portfolios. This stability is essential in a market that offers rich growth potential. While the ease of doing business in the country presents an opportunity, product expansion remains an emerging challenge due to a lack of insurance product awareness and consumer perceived value.

Colombia

Colombia enjoys strong economic growth and enormous potential for financial stability over the next three to five years. GDP growth is about 4% a year, ahead of the average for the region. This is driven by stronger activity from foreign investors, a stable macroeconomic environment and a growing middle class. The free trade agreements that Colombia has engineered with major world markets are one example of the tremendous potential the country offers.

Insurance regulation is moving toward a more risk- and economic value-based solvency framework, with tightened capital market regulations. As a result, Colombia is ahead of many global rapid growth markets in reforming regulatory processes, protecting investor rights and cross-border trading to increase the ease of doing business for small companies.

Recent rules that allow foreign insurance companies to establish branches and operate as local insurers have changed the complexion of the Colombian market. Global industry players are entering, buying local insurers or considering start-up companies. This should encourage increased capacity, product diversification and greater competition. Colombia’s premium growth was US$8b in 2013, and rate reductions of as much as 10% were expected for property and life/accident insurance in 2014.

Mexico

The Mexican insurance market is the second largest in Latin America. As of December 2013, gross premiums totaled $334.19 billion Mexican pesos or approximately US$25.6 billion, an increase of 11% over the prior year; this increase includes the effect of a large biannual policy of the government. Despite having one of the lowest proportions of insurance penetration in the region (almost 2% of GDP), Mexico continues to grow above the country’s nominal GDP. New insurance laws and Solvency II regulations are leading to market consolidation, as well as growth in specialty and consumer product lines. The high demand for life insurance is reflected in individual life premiums, which rose 23% in 2013, following a 19% increase in 2012, basically for the success of some savings products.

The regulatory framework in Mexico is evolving toward a more sophisticated risk-based capital approach. A proposed Solvency ll – type insurance law has been under review by the Mexican regulator, Comision Nacional de Seguros y Fianzas (CNSF) and the Mexican association of insurance companies, Asociacion Mexicana de Instituciones de Seguros (AMIS) since the second half of 2008.
The Mexican Congress approved the new regulation in April 2013. Quantitative impact studies and qualitative impact studies are moving forward, and new accounting principles are under discussion. Legislation in the country continues to advance and is likely to be implemented ahead of the rest of the region.

Peru

Peru’s steady economic growth and expanding middle class are attracting new business and opening doors for insurance companies. The Peruvian economy is supported by rapid growth in investment, low inflation, strong economic fundamentals and an annual GDP growth rate of nearly 6%. The country has an investment rating in Latin America that is second only to Chile and offers a favorable legal framework for foreign investors. The financial sector, including insurance, is second only to mining (gold, zinc and copper) in direct foreign investment.

In the last decade, insurance industry sales in Peru have grown more than 200%, from PEN2,700 million (approximately US$776 million) to PEN9.069 million (approximately US$3.36 billion) in 2013. As of December 2013, 40% of total net premiums were from general insurance, 14% from accident and health, 21% from life insurance and 25% from the private pension fund system. It is important to note that only approximately 16% of the urban population has private insurance and 18% has health insurance – and this number has stagnated over the past five years.

The insurance market is highly concentrated in Peru, with 2 of the 15 insurance companies accounting for 60% of total gross written premiums. Overall, insurance penetration rates remain low, as they are in many other Latin American countries.

Uruguay 

Uruguay is a small country with stable economic growth, expanding tourism and rising disposable income. It was one of the few countries in Latin America that was able to avoid recession in 2008, and it continues to grow, with an economy based largely on exports of commodities like milk, beef, rice and wool. Some of world’s largest banks and financial institutions maintain branches there, and it was fortunate not to experience the impact of the global financial crisis or ensuing government intervention.

Although the Uruguayan insurance market is highly competitive, it has no more than 15 companies competing for market share. The largest in the country is Banco de Seguros del Estado (BSE), a government-owned insurer with about 65% of the market share as of December 2013.

Gross written premiums for the insurance industry totaled UYU21.6 billion (US$1.1 billion) in 2012, with a CAGR growth rate of almost 19%. Motor insurance and general liability insurance were leaders in the non-life segment. An increase in demand for pension products contributed to the significant growth in the life segment.

For the full report from which this excerpt is taken, click here.