Challenges of internal models
As Solvency II-based capital regimes further impact internal capital models, greater clarity around a company’s view of risk is becoming more important, but optimising model infrastructures is often limited by platform inflexibility, computational power and cumbersome approval processes, according to three executives from Guy Carpenter who debated this issue.
“For most organisations, Solvency II is fully integrated into business-as-usual reporting,” said Andrew Cox, managing director, GC Strategic Advisory. “Now the focus is on further integrating capital models into a broader strategic framework to better support decision-making.”
However, as Eddy Vanbeneden, managing director, head of GC Analytics, Continental Europe, explained, extending the model’s strategic remit is challenging.
“Expanding model functionality can be burdensome,” he said. “For Solvency II-based internal capital models, changing the underlying platform requires the redocumentation of all model processes to demonstrate compatibility with the Solvency II directive’s requirements. The approval and validation process requires a full audit trail.”
He also highlighted model data limitations. “Many companies want to embed underwriting activities into the internal capital models. However, this requires the model to handle much greater data resolution than is defined under Solvency II, which would put existing frameworks under much strain.”
The stringent nature of the directive has also hindered the evolution of capital model technology, given companies’ reticence in seeking approval for changes to the infrastructure.
“Many current models were built on leading-edge technologies at the time they were developed,” Cox explained.
“However, as new technologies have become available across other parts of the re/insurance process, we have not seen these to the same level in the internal capital models.”
One development which may force the technological hands of re/insurers is the International Financial Accounting Standard 17 (IFRS 17).
As Till Wagner, senior vice president, GC Strategic Advisory, explained: “While IFRS 17 is an accounting rather than a capital standard, internal capital models can form a key part of the reporting requirements. Companies will want to avoid data duplication and divergence if operating multiple reporting models.”
However, he added, the models will need to be upgraded to meet the standard’s data demands.
“Companies will need to adapt their internal capital model to fit with IFRS 17 requirements,” he said. “It will place more stringent data demands on organisations requiring much greater resolution than under Solvency II, and the need for virtually live data on a policy-by-policy basis. Organisations will need to look at greatly enhancing the technology underpinning their model capabilities.”
Guy Carpenter is currently working with clients to better optimise internal capital models, create a more integrated model environment, and implement necessary technological performance upgrades.
The firm recently announced a multi-year partnership with Reynolds Porter Chamberlain Consulting to license and develop proprietary applications to run within its Tyche software.
“Through Tyche, we are able to integrate a vastly more powerful computational engine into the model framework, enabling the processing of huge datasets in almost real time, and facilitating analysis across the model framework—underwriting, pricing, reserving and capital management—on a single platform,” Vanbeneden explained.
Such platform-based solutions can deliver greater flexibility and enhanced data-management capabilities at reduced cost. Built to support speedy integration into existing frameworks, they support easier validation and a more straightforward auditing process.
As Cox highlighted: “Such technologies mean our clients now have, for example, the opportunity to review reinsurance capital model outputs daily.
“Greatly improved analysis speed means complex optimisation scenarios can be modelled in minutes, with results directly influencing live discussions on capital and broader risk strategy.”
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