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OSFI Update
November 19, 2009
Bernard DupontDirector, Capital Division
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Agenda
MCCSR Overall direction
IFRS modifications
Segregated Funds Requirements
Market and Credit risks QIS
Mortality improvement
Others
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MCCSR overall directionPressure from everywhere to redesign capital requirements
Redesign the current MCCSR standardized test to use new and more risk based techniques
Allow the use of internal models for determining regulatory capital
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Implementation of IFRS General principle:
- Reduce MCCSR modifications to a minimum until phase II
- When the company is given the option to retain the current accounting methodology, retain current MCCSR treatment.
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OSFI will require life insurance companies to continue to use the current practice for CALM valuation as the basis for establishing relevant MCCSR capital available and capital required.
Balance sheet capital under IFRS will be adjusted to reflect any differences between CALM and IFRS valuations.
A secondary option being considered is to allow IFRS valuations using IAS 39 for non-insurance contracts and non-insurance components bifurcated from insurance contracts into capital.
Insurance Contracts
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Lessons learned in the recent financial turmoil showed that certain securitization structures did not transfer the risk as expected.
Assets which are not derecognized or which are not exempted from consolidation should be included in the capital available and capital required calculations.
Securitization and Off Balance Sheet Structures
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Most impacts for insurers are expected to occur within the following areas:
Consolidated Mutual Funds:• Where Insurers control mutual funds through direct
ownership of mutual fund units and IFRS requires consolidation, Asset risk capital charges will apply.
Consolidated Segregated Funds:• Risk based capital requirements already exist for
segregated funds and OSFI will continue with the current treatment. Although segregated funds will appear on the balance sheet, they would not attract asset specific capital charges outside of the existing Segregated Fund Risk charge.
Securitization and Off Balance Sheet Structures
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Own-use Property:Unrealized revaluation gains and losses would not be included in capital.These unrealized gains do not represent capital freely available to absorb losses because own property is not easily sold in a stress environment and without disrupting operations.Impact at time of adoption of fair value and valuations changes going forward will both be excluded from regulatory capital.MCCSR / TAAM returns will be adjusted accordingly.
Real Estate
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Real EstateInvestment Property:
OSFI will require that any fair value gains or losses upon transition and subsequent revaluation gains and losses be recognized in regulatory capital.
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Net impact of IFRS 1 changes:
Net impact from IFRS 1 (other than own-use property) should be reflected in retained earnings.
OSFI recognizes that impact of some changes have been flagged by industry as potentially material and adverse (e.g. IAS 19, Employee Benefits ).
On confirmation of systemically material net impacts, OSFI will execute a transition mechanism. (ex. a phase-in could amortize the hit to capital over four quarters).
Progress reports need to substantiate overall material impact of changes if OSFI is to provide transitioning.
IFRS 1 – Transition to IFRSs
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MCCSR Standardized Approach
Std Approach Working Group created:participants: OSFI, AMF, Assuris
Start modifying the MCCSR current elements being more impacted by IFRS Phase II
Market and credit riskCalibrate the elements once the results from QIS are available (fall 2009)Recalibrate the elements once the results from modelling are available
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MCCSR Standardized approach
Framework Paper issued October 2008
Market risk paper issued October 2008
Modifications expected to be in place for 2012
Work on other MCCSR elements after phase I developments if necessary
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Segregated FundsCurrent regulatory capital requirements for segregated fund guarantees are based on a modeling approach developed by the Canadian Institute of Actuaries (CIA) in 2000
Traditionally, OSFI has worked with the CIA when developing capital requirements and, for the most part, this approach has worked well
The market for segregated fund guarantee products has continued to evolve, with companies introducing new and increasingly complex products (e.g., guarantee minimum withdrawal benefit)
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Capital Requirements – Historical Perspective
OSFI has, for some time, had concerns about the risks in segregated fund guarantee products and the extent to which the modeling approach developed by the CIA captures these risks
As a result of these concerns, in 2006, OSFI asked the CIA to conduct a comprehensive review of the modeling approach for segregated fund guarantees to ensure that it was still appropriate
The events of the past 18 months have reinforced OSFI’s concerns and suggest that current risk evaluation may have underestimated the risks in segregated fund guarantee products
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Capital Requirements – Historical Perspective
Segregated fund guarantee risk is not like traditional insurance risk
Traditional insurance risk is diversifiable through the law of large numbers
The equity market risks, which form a major part of segregated fund guarantee risk, are not diversifiable
When equity markets decline, obligations on all policies increase at the same time
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Recent DevelopmentsOSFI is undertaking a comprehensive review of segregated fund guarantee requirements
Review has several components:Comparison of the models and assumptions used by different companies to determine capital requirementsComparison of the amounts determined by different companies for identical risksConsideration of alternative methods for determining capital requirementsAdvice of an external consultant on different methods and amounts to be determined by this review
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Recent DevelopmentsSegregated fund guarantee requirements are expected to increase as a result of this review
Review will confirm whether and by how much requirements should increase and the methods used to determine requirements going forward
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Recent DevelopmentsPreliminary results of the review suggest that:
there is a wide range of practice with respect to the setting of assumptions, e.g., for equity returns, discount rates and policyholder behaviour anddifferent companies could be holding materially different amounts for the same risk.
Differences could be the result of some companies being more conservative than necessary
No evidence that companies are not following CIA standards of practice
Increased disclosure of assumptions to the public may be appropriate.
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Recent DevelopmentsIndustry consultation on possible changes to the requirements for segregated fund guarantees would take place during 2010
Implementation expected to occur as soon as practicable, subject to appropriate grandfathering and/or transitioning/implementation arrangements
CIA has recently established a new task force to look at segregated fund guarantee risk modeling and requirements
OSFI is monitoring the work of this task force as OSFI completes its review
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Mortality ImprovementCIA Standard expected to be in place in 2010 allowing mortality improvement to be taken into accountOSFI will reverse the impact in capital until the capital requirements have been assess appropriately, likely including a QIS in 2010New capital requirement might be in place in 2012
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Other issuesAssessing the appropriateness of the current Capital Metric for Holding companies, including the associated disclosure requirements and leverage ratio.Minor changes for MCCSR 2010
Updated to reflect the introduction of Part XIII.Hedging rules clarified