Following the Prudential Regulation Authority’s (PRA) consultation on reforms to the Matching Adjustment (MA), actuarial and insurance consultancy OAC commented on the need for insurers with existing portfolios to review and respond to the opportunities, proposed process changes and new requirements.
As the insurance industry makes the transition from Solvency II to Solvency UK, the proposals widen the eligible liabilities to allow in-payment income protection (IP) liabilities and the guaranteed element of with-profits (WP) annuities.
They also allow firms to invest in assets with highly predictable cash flows (rather than fixed cash flows) subject to an additional risk allowance and subject to the corresponding benefit being a maximum of 10% of the overall MA benefit.
This is alongside removing the limit on the amount of MA that may be claimed from sub-investment grade assets. This (limited) widening of eligible assets is intended to “increase the incentives for insurers to invest in a wider range of long-term, productive assets, including assets with construction phases” and so “contributing to insurers meeting their commitments to the Government.”
The regulator proposes safeguards (including the above) to mitigate perceived risks. These measures include an annual attestation (from the CFO typically) for the MA benefit being claimed, a new annual reporting requirement (with a waiver process) and an explicit link to MA eligibility conditions and the Prudent Person Principle (PPP). The PRA recognises that all firms are required to comply with the PPP but this specific demonstration is deemed important.
The proposals introduce a more granular assessment of credit quality - the fundamental spread must reflect differences by rating notch. The PRA proposes that neither the attestation report (a private disclosure) nor the underlying evidence would be within the scope of external audit.
David Gray, Consultant Actuary at OAC, commented: “From our initial reading it looks likely that the PRA will have to clarify details of the coverage of IP liabilities including the treatment of Holloway contracts which encompass an investment option in addition to sickness protection.
“Overall, however, we welcome the PRA’s intention to improve this aspect of regulation and it is reasonable that any “loosening” is managed through new safeguards. Ultimately, policyholders are best served by proportionate risk management which provides a fair value of benefits at a reasonable cost.
“This cost (implementation and ongoing compliance) / reward balance merits consideration of these proposals by With-Profits annuity and Income Protection providers. As proposed, insurers with existing MA portfolios will need to review processes and implement new requirements.”
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