A key feature of the new regime will be a new solvency standard for all firms known as the Solvency Capital Requirement (SCR). This is to be calculated at least once a year, reported to the Supervisor and published. The firm should monitor its actual capital position against the SCR on a continuous basis, and recalculate the SCR as soon as the risk profile of the firm undergoes any significant change, i.e. if the assumptions underlying the existing SCR are no longer valid. The SCR must be covered by an equivalent amount of assets in excess of liabilities, subject to certain valuation and eligibility rules. If the SCR is not covered then the firm must submit a recovery plan to the supervisor and will be closely monitored to ensure compliance with this plan.
The SCR is intended to reflect all quantifiable risks that the firm might face, including:
- non-life underwriting risk;
- life underwriting risk;
- special health underwriting risk;
- market risk;
- credit risk;
- operational risk.
It is intended to correspond to the Value-at-Risk of the net assets of the firm subject to a confidence level of 99.5% over a one-year period, and shall be calculated on the presumption that the firm will carry on its business as a going concern.
There will also be a specified lower level of capital sufficiency, called the Minimum Capital Requirement (MCR), which represents a level of capital below which authorisation could ultimately be withdrawn if rapid recovery is not achieved. The precise details of the MCR have yet to be decided, but it will be calculated quarterly and is likely to be calibrated to a confidence level of between 80% and 90%.
There are two main approaches that firms can take when calculating the SCR. The first is to use a standard formula, the structure of which is laid out in the proposed directive. This is designed to be more risk-sensitive than the current approach, taking into account the whole spectrum of risks faced by the (re)insurer. The lines of business, the duration of liabilities and the assets held are all considered, together with explicit allowance for other risks not considered under the current regime such as operational risk. Most of the detailed parameters in the formula have not been specified as yet, and are subject to further analysis and consultation with the industry.
The SCR comprises a module for each of the risk types mentioned above. An SCR for each risk-type (except for operational risk) is calculated, with each module calibrated to the “one-year 99.5%” level. These amounts are then aggregated, with diversification effects governed by a correlation matrix. A separate loading for operational risk (details to be decided) is then added.
Subject to approval by the supervisor, firms may replace a subset of the standard formula SCR parameters by parameters specific to the firm when calculating the life, non-life and special health underwriting risk modules.
