Risk Management and Governance
Lou Felice
Health and Solvency Policy Advisor
NAIC
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© 2012 The National Association of Insurance Commissioners
Recap and Going Forward
• Touching on ERM and Governance in
Existing U.S. Solvency Regulation
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RBC
Reserves
Analysis
Exams
• ORSA Coming On Line
• Corporate Governance Standards / Best
Practices Being Developed
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© 2012 The National Association of Insurance Commissioners
Risk Management Framework - RBC
Use of the Capital Requirement
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RBC has some influence on insurers’ risk
management (e.g. Reserves reduced for
reinsurance, but not for collateral); addressed
mainly through other supervisory tools
SII is designed to provide incentives for risk
management
Capital add on may be required by regulator, but it
is not part of the RBC capital amount
SII capital add on increases SCR
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© 2012 The National Association of Insurance Commissioners
Risk Management Framework –
PBR Reserves
• Governance Guidance in Valuation Manual
(VM-G) – All Applicable to the PBR function
– Guidance for the Board of Directors
 Best practices for oversight, review and interaction with
senior management v
– Guidance for Senior Management
 Oversight of actuarial valuation function:risk tolerance ;
assumptions; to mitigation strategies; adequate
expertise and resources
– Guidance for Actuary
 Adequate review, testing of assumptions, cooperation
with internal / external auditors and regulators
© 2012 The National Association of Insurance Commissioners
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Risk Management Framework Analysis
• Continuous monitoring/qualitative assessments using
regulator only data – assess:
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Changes in business plan
Material transactions, including group transactions
Implications for reputation/contagion risks
Impacts of major economic and insurance events, and
Stress testing
• In depth assessments of (potentially) troubled insurers
• More frequent/extensive:
• Insurer reporting
• Regulator analyses/exams
• Authorities for regulatory actions include
• Conservation/rehabilitation/liquidation in the domiciliary state
• Suspending or revoking license to write in the state
© 2012 The National Association of Insurance Commissioners
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Risk Management Framework –
Analysis (ORSA)
• ORSA process is one element of insurer’s broader ERM
framework
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Links the insurer’s risk identification, measurement and prioritization
processes with capital management and strategic planning
Each insurer’s ORSA process will be unique, reflecting its business, strategy and
approach to ERM
• Regulators will use the ORSA Summary Report to gain a high-level
understanding of the process
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Summary Report may be provided in any combination as long as all insurance
legal entities within the group are represented
Summary Report will be supplemented by the insurer’s internal risk management
materials
Summary Report, at a minimum, should discuss:
• Section 1 – Description of Insurer’s Risk Management Framework
• Section 2 – Insurer’s Assessment of Risk Exposure
• Section 3 – Group Risk Capital and Prospective Solvency Assessment
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© 2012 The National Association of Insurance Commissioners
Risk Management Framework –
Financial Exams
Phase 1
Phase 2
Phase 3
Understand the Company and Identify Key
Functional Activities to be Reviewed
Identify and Assess Inherent Risks in Activities
Identify and Evaluate Risk Mitigation
Strategies/Controls
Phase 4
Determine Residual Risk
Phase 5
Establish/Conduct Exam Procedures
Phase 6
Update Prioritization and Supervisory Plan
Phase 7
P
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a
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Draft Exam Report and Management Letter
© 2012 The National Association of Insurance Commissioners
Based on Findings
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Risk Management Framework Financial Exams
To provide a clear methodology for assessing
residual risk and how it translates into
examination procedures;
To allow the assessment of risk-management
processes in addition to those which relate to
financial statement line items; and
To utilize examination findings to establish, verify
or revise company’s priority score.
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© 2012 The National Association of Insurance Commissioners
Risk Management Framework Exams
1. Identify and understand internal controls that
the insurer has in place for each risk
2. Consider whether the controls appear to be
designed appropriately to mitigate each risk
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If not, no need to test controls
3. If so, test the controls for operating effectiveness
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Not required if testing will be inefficient
4. Conclude whether the internal controls effectively
mitigate each inherent risk
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Strong, Moderate or Weak
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© 2012 The National Association of Insurance Commissioners
Risk Management Framework –
Financial Exams
• Review Existing Control
Documentation
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SOX Workpapers
Internal Audit Workpapers
External Audit Workpapers
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Model Audit Rule Requirements
• Utilize where relevant to exam
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© 2012 The National Association of Insurance Commissioners
Solvency Modernization Initiative (SMI):
ORSA
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© 2012 The National Association of Insurance Commissioners
US Solvency Framework
• US Own Risk & Solvency Assessment (ORSA)
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ORSA Manual developed with industry comments
Two primary goals:
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Foster effective level of ERM, thru which each insurer identifies and
quantifies material and relevant risks using techniques appropriate to
the nature, scale and complexity of the insurer’s risks, in a manner
adequate to support risk and capital decisions
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Provide a group-level perspective on risk and capital as a supplement
to the existing legal entity view
• ORSA Exemption
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Individual insurer’s annual direct written and unaffiliated assumed premium,
including international direct and assumed premium but excluding premiums
reinsured with the Federal Crop Insurance Corporation and Federal Flood
Program, is less than $500,000,000; and
Insurance group’s (all insurance legal entities within the group) same annual
premium is less than $1,000,000,000
Insurer specific waiver granted by Commissioner based upon unique
circumstances including, but not limited to, type and/or volume of business written
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© 2012 The National Association of Insurance Commissioners
• Model adopted effective 1/1/15
• ORSA Guidance Manual
• Section 1-Description of insurers ERM
• Section 2-Insurer assessment of risk exposure
• Section 3-Group risk capital and prospective
solvency assessment
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© 2012 The National Association of Insurance Commissioners
• Current Status
• ORSA Pilot Project
• Summer 2012
• Feedback to industry
• ORSA Subgroup report to E Committee
• Make a few modifications to the guidance manual
• Post observations to NAIC website
• Referrals to FAH and FEH-Subgroup to continue to
provide guidance to these groups
• No Part B Accreditation Standards at this time
• 2013 ORSA Pilot
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© 2012 The National Association of Insurance Commissioners
• No two ORSAs will be the same, nor should they
• Regulatory guidance will be high level
• Regulators need to learn by reviewing
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Staffing?
ERM expert?
ERM or actuarial consultant?
As you learn, you will begin to see what you believe are
best practices, and begin to set expectations
• Will result in interaction, but hopefully not mandates
with some exceptions
• Internationally active insurers ORSAs (or result) may
be treated differently
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© 2012 The National Association of Insurance Commissioners
• Section 1-Description of insurers ERM
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Risk Culture and Governance
Risk Identification and Prioritization
Risk Appetite, Tolerances and Limits
Risk Management and Controls
Risk Reporting and Communications
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© 2012 The National Association of Insurance Commissioners
• Section 2-Insurer assessment of risk exposure
• This section typically identifies where the insurer believes its major risks lie (e.g.
interest rate risk, equity risk, catastrophe risk, terrorism risk, certain lines of business,
certain investment risks, etc.)
• May also identify financing risk (debt covenants, rating agency requirements, unused
debt or unused liquidity)
• Typically contains some amount of discussion on how each of the risks are mitigated.
In some cases the information may be very quantitative (e.g. limits), in other cases
more qualitative (e.g. reinsurance limits, hedging program discussion and limits, and
other more specific mitigators for more specific risks.
• Less of a sales opportunity and less need to be examined that section 1 since it will
likely tend to be more specific and factual.
• Maybe the single most important part of the ORSA to the extent company can
articulate how well the mitigators and stresses are used and relate to the major risks of
the company.
• Particularly helpful where there is a particular area of concern that the regulator may
have (e.g. low interest rate environment, concentration risk, etc.)
• Helpful because it demonstrates the rigor and thoughtfulness of the company.
• Likely would need to be explained by the company to make sure there is a good
understanding.
• Role of the examiner vs. analyst to avoid duplication
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© 2012 The National Association of Insurance Commissioners
• Section 3-Group risk capital and prospective
solvency assessment
• Combines outcomes of sections 1 and 2
• Testing available capital
• Description of methods and assumptions used
• Basis of accounting (e.g. GAAP, economic)
• Time Horizon (e.g. for economic)
• Value at risk (Var), Tail-value at risk (TVAR), Probability of
Ruin
• AA solvency, 99.X%, 1-year VAR, TVAR or CTE, X% of
RBC, etc
• Aggregation or diversification
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© 2012 The National Association of Insurance Commissioners
• Section 3-Group risk capital and prospective solvency
assessment
• Perhaps the most useful section, particularly to the analysis process
• Provides a new window (to rating agency capital) that was always desired but
rarely provided to regulators. Typically some comparison to SAP RBC.
• Provides even more useful data for the more sophisticated companies in the form
of an economic capital. Some of the largest companies will likely submit an
assessment that may share Solvency II type of methods (1 year 99.5% Var
approach) or methods looked for by rating agencies (e.g. AA rating from S&P)
• May identify the capital by areas of risk.
• May discuss liquidity in addition to capital in similar fashion.
• Should include how the capital changes under different stresses.
• Particularly helpful where there is concern regarding sensitivity of the business
plan to ratings.
• Similar to section 2, demonstrates the rigor and thoughtfulness of the company.
• May need to be explained by the company to make sure there is a good
understanding.
• Role of the examiner vs. analyst to avoid duplication
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© 2012 The National Association of Insurance Commissioners
Solvency Modernization Initiative (SMI):
Corporate Governance
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© 2012 The National Association of Insurance Commissioners
What is Corporate Governance?
• What is Corporate Governance?
– CG address insurer insolvencies
• Rules and practices ensuring:
– Accountability
– fairness and
– Transparency
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© 2012 The National Association of Insurance Commissioners
What is Corporate Governance?
Rules and practices ensuring:
• Accountability
• fairness and
• Transparency
Between insurers and stakeholders.
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© 2012 The National Association of Insurance Commissioners
FSAP- 2009 CG Recommendations
Topic
Recommendation
Suitability of Persons
Specific requirements in relation to individuals’ fitness and
propriety should be adopted.
Corporate
Governance
Consider issuing more guidance on good and bad practices in
corporate governance for insurers
Internal Controls
Consider the scope for issuing guidance on good and bad
practices in internal control. Make a formal requirement for insurers
to have an internal audit function.
Enforcement or
Sanctions
The insurance laws should be changed to provide the supervisory
authority with powers to fine individual directors and senior
managers of insurers
Risk Assessment and
Management
The relevant laws, regulations or standards should be changed to
include a requirement that an insurer have in place comprehensive
risk management policies and systems capable of promptly
identifying, measuring, assessing, reporting and controlling their
risks.
Insurance Activity:
Board Approval
Requirement
The relevant laws or regulation should explicitly provide that an
insurer must have in place strategic underwriting and pricing
policies approved and reviewed regularly by the Board.
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© 2012 The National Association of Insurance Commissioners
Corporate Governance
Working Group- Formed
Formed at the
2009 Winter NM
• Part of a broader Solvency Modernization
Initiative
• Considering changes to improve Corporate
Governance practices and regulator
assessment
http://www.naic.org/committees_e_isftf_corp_governance.htm
© 2012 The National Association of Insurance Commissioners
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CGWG Charges
Charges
Outline high-level corporate governance principles. Determine the appropriate
methodology to evaluate adherence with such principles, giving due consideration to
development of a model law.
• Analyze the requirements, regulatory initiatives and best practices of the states,
other countries and regulators, and the insurance industry, to assist in principle
development.
Develop additional regulatory guidance including detailed best practices for the corporate
governance of insurers
Review the current IAIS principles and standards related to corporate governance.
Critically review and provide input and drafting to the IAIS Governance and Compliance
Subcommittee, and on other IAIS papers as assigned by the parent Task Force. From this
work, identify future initiatives to improve our regulatory solvency system.
Consider the development of insurance regulatory education for members of insurers’
Boards of Directors.
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© 2012 The National Association of Insurance Commissioners
Corporate Governance
Working Group
Study of existing requirements related to
corporate governance
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US- NonInsurance
USInsurance
ICP 5:
Suitability of
Persons
ICP 7:
Corporate
Governance
ICP 8: Risk
Management
and Internal
Controls
IAISICPs
Comparative Analysis
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© 2012 The National Association of Insurance Commissioners
Corporate Governance
Working Group
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September 28, 2012 - Exposure Proposed
Responses to a Comparative Analysis of
Existing U.S. Corporate Governance
Requirements Summary available at:
http://www.naic.org/documents/committees_e_isftf_corp_governance
_exposures_proposed_responses_comparative_analysis.pdf
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© 2012 The National Association of Insurance Commissioners
Example of Proposed
Enhancement to CG
• Annual reporting of
CG practices
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© 2012 The National Association of Insurance Commissioners
Example of Proposed
Enhancement to CG
• Develop a more Common
Methodology for both analyst
and examiners to use in the
assessment of Corporate
Governance.
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© 2012 The National Association of Insurance Commissioners
Other Proposed
Enhancements to CG
• Internal Audit- Large Insurers
• Referrals to other NAIC
working groups
• Requiring an element of CG
be included in Model #385
for Accreditation purposes.
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© 2012 The National Association of Insurance Commissioners