Rating actions not expected on Solvency II implementation: AM Best

AM Best said it does not expect to take rating actions as a direct consequence of the implementation of Solvency II.

The new regulatory regime that comes into force on 1 January 2016 introduces risk-based solvency requirements for insurers across all member states of the European Union.

European insurers will have to comply with both a solvency capital requirement (SCR), calculated to a 99.5 percent confidence level over a one-year period, and a minimum capital requirement (MCR), calculated to an 85 percent confidence level over a one-year period.

The SCR is set so that insurers should be able to withstand all but the most severe of shocks. The MCR denotes a level below which policyholders would be exposed to an unacceptable level of risk.

The introduction of two capital requirements at different confidence levels provides regulators with a supervisory ladder of intervention, according to AM Best. Breach of the SCR would prompt supervisory intervention and the affected company would be required to take measures to either increase its eligible own funds or reduce its risk profile to restore capital to the level of the SCR.

AM Best claimed that significant SCR breaches will be publicly disclosed in the company’s annual Solvency and financial condition report (SFCR) and breach of the MCR would, unless rapidly remedied, lead to the loss of an insurer’s authorisation.

“There has been a long lead time to implementation, during which companies have focussed on meeting the higher capital requirements of the SCR. Moreover, the full impact of Solvency II will be phased in over 16 years through the use of transitional measures,” said AM Best.

Based on discussions with management, AM Best also says it expects rated entities to be compliant with their SCR. However, a small proportion of insurers in Europe may be in breach of their SCR on day one of the new regime, even with transitional measures.

The European Insurance and Occupational Pensions Authority (EIOPA), when it published the results of its stress tests in November 2014, stated that the insurance sector was “in general sufficiently capitalised in Solvency II terms”. But the survey showed that 14 percent of companies (representing 3 percent of total assets) had an SCR ratio below 100 percent.

Following the publication of the stress test results, AM Best noted that the tests were carried out on the basis of insurers’ positions as at 31 December 2013, at a time when most insurers had not completely implemented their plans for arranging their businesses to conform to Solvency II regulations.

“In these circumstances, the industry generally performed well under the stress tests, which were largely conducted without the application of internal models but using the standard formula prescribed by EIOPA,” said the rating firm.