Capital management (2)

regulatory capital

solvency capital requirement

capital required by the regulator to protect against the risk of statutory insolvency

total of:
excess of the provisions established on a regulatory basis over the best estimate valuation of the provisions


an additional capital requirement in excess of the provisions established

provisions vs additional capital requirement

in some territories, or for some types of financial provider: the regulatory basis used for the provisions is best estimate
the additional capital requirement is substantial

in other cases the regulatory basis used for the provisions is highly prescriptive and prudent
the additional capital requirement is small

Solvency II

solvency requirement for insurance companies' risks. Operative from 1 Jan 16 in all EU states.

three pillars

quantification of risk exposures and capital requirements

a supervisory regime

disclosure requirements

Minimum Capital Requirement (MCR) is the threshold at which companies will no longer be permitted to trade.

Solvency Capital Requirement (SCR) is the target level of capital below which companies may need to discuss remedies with their regulators.

pros and cons of standard v internal models

standard

internal

SCR calculation less complex and time consuming

aims to capture risk profile of an average company, and so it is not necessarily appropriate to the actual companies that need to use it

benchmarked against standard

likely to be used only by large companies who can justify cost of using internal model

uses of internal models

calculate economic capital using different tail measures, such as VaR and Tail VaR

calculate levels of confidence in the level of economic capital calculated

to apply different time horizons to the assessment of solvency and risk

to include other risk classes not covered in the standard model

economic capital

amount of capital the provide determines is appropriate to hold given its assets, liabilities and business objectives

based on:

risk profile of individual assets and liabilities in portfolio

correlation of the risks

desired level of overall credit deterioration that the provider wishes to be able to withstand