Reinsurers with internal models will have competitive edge: Kessler

Reinsurers with internal capital models approved by regulators will have a competitive advantage over their rivals due to the flexibility this will offer in the way they allocate capital, Denis Kessler, chief executive and chairman of SCOR, told Baden-Baden Today.

Kessler said SCOR is awaiting the verdict from regulators on its own internal model and is “reasonably optimistic” of its being accepted ahead of the implementation of Solvency II at the start of next year. In an industry that is increasingly capital-driven, he said reinsurers using such internal tools would have a distinct advantage over companies using standard models for a number of reasons.

“It is a very expensive and time-consuming exercise but you cannot overestimate the competitive advantage having an internal capital model will offer,” he said. “It is the first time in the history of the industry that a regulator will be accepting the solvency of an entity based purely on its own internal approach, as opposed to using other metrics such as different ratios.”

The stochastic-based capital model SCOR has submitted for approval is holistic, meaning it covers all aspects of the business including its assets, liabilities and operational risk. Kessler said some companies have built models that cover only parts of their businesses.

“We are seeking approval of the full holistic model with no additional capital requirements,” he said.

He added that reinsurers using an internal model will have a competitive advantage in three distinct ways. “First, you learn so much about your company simply through the process of building it. You learn a lot about the correlations between your assets and liabilities and the way diversification impacts on the overall portfolio.

“Second, it allows you to manage your capital in a far more sophisticated way. The industry is becoming more and more capital-driven, but how can any company be truly capital-driven without the tools to assess its solvency and allocate capital in a timely and appropriate way?

“Third, if you are well above the solvency capital requirement (SCR) ratio, it means you can strategically manage your capital over time to secure a better return.”

In an industry that is increasingly competitive, one of the few ways reinsurers can set themselves apart is through investing in better tools and analytics that give them an edge on their rivals.

“We have spent a lot on this at SCOR. We submitted 20,000 pages to the regulator. But it will pay off,” Kessler said.

Victor Peignet, chief executive of SCOR Global P&C, added that using the internal capital model has changed the approach of underwriters for the better.

“It has improved the quality of the underwriting,” he said. “Our underwriters have become more portfolio-driven and client-focused as a result.”

Join the union?

Despite his own company apparently being ahead of the game and benefiting from regulatory changes, Kessler is in fact an advocate of a change to the regulatory system in Europe. He believes that insurers over a certain size should be regulated centrally instead of by their local regulators.

“I am in favour of some kind of insurance union—a regulator that would oversee large and medium-sized insurers wherever they are based,” he said.

“This is already more or less the case for banks. In the insurance space, you have a pan-EU regulatory framework, soon in the form of Solvency II, yet you are reliant on 27 regulators interpreting that in different ways,” Kessler said.

“The recipe and ingredients may be the same, but different cooks can create very different dishes depending on their interpretation.”

He also noted that one of the ironies of Solvency II has been that, despite its ethos of providing a single, centralised regulatory framework for insurers, in many cases it has placed the emphasis of capital requirements back on the regional subsidiaries of companies.

“In some ways, we are seeing a ‘re-fragmentation’ of the regulatory regime with the emphasis being placed back at a local level,” he said.

He did, however, add that this would probably drive additional demand for reinsurance in the run-up to Solvency II as buyers, especially those using the standard formula for Solvency II compliance, confronted the reality of adjusting to the new regime.

“Solvency II will generate some new business for reinsurers,” he said. “Companies are on the eve of filing and some are seeing that more capital is sometimes required at a local level in subsidiaries.

“Rather than use group capital, some insurers will turn to reinsurance as the solution. It will not result in massive demand, but it is a positive for reinsurers.”