Hong Kong Risk Based Capital Guideline - Insurance market readiness survey

Deloitte surveyed Hong Kong insurers on the preparedness for the Risk Based Capital regime, the most significant change that Hong Kong insurers have seen for a generation.

The Hong Kong Insurance Authority (IA) is moving the solvency assessment for insurers into a three-pillar Risk Based Capital (RBC) framework. This survey aggregates the views of 10 insurers to understand how prepared they are for implementation of the new Hong Kong RBC solvency regulations. Respondents included a mix of international and local insurance firms in the city, providing broad perspectives on the impacts of the new regime. Our survey looked at how firms have been preparing for the Pillar 1 quantitative technical requirements as well as the qualitative implementation needs for Pillar 2. Highlights of the survey are set out below:

Industry readiness

Solvency assessment and capital calculations

The industry is naturally at different stages of preparedness and there is considerable work to be done in the actuarial model development.

• Only 20% of the respondents intend to form a new valuation model for the HKRBC, which is unexpected considering that the proposed quantitative impact studies require a very different capital and liability assessment compared to the current CAP 41 regulations
• Half of the companies do not have an existing economic capital framework that could be leveraged for implementation of the HKRBC
• 40% of the respondents have not commenced building an actuarial valuation system for risk based capital management

We believe that insurers need to explore how to develop and implement frameworks that meet the upcoming HKRBC standards in addition to those required for IFRS 17. The pressure on the specialist resources and costs will likely rise.

Enterprise Risk Management (ERM) readiness

In January 2019, the IA conducted a second round of consultation on the Pillar 2 ERM requirements and later in July 2019 released the GL 21 'Guideline on Enterprise Risk Management'.

The insurance industry is in a mixed state to comply with the IA's new ERM framework requirements and appears lagging in few important areas. The RBC requirements in Risk Appetite and Risk Management policies are in general better understood, but respondents indicated a key gap in the Own Risk and Solvency Assessment (ORSA) and other areas. More efforts will be needed to align across the organisation for RBC transformation.

HKRBC impacts

HKRBC has significant, panoramic impacts on an insurer’s business. The enhanced management of risk is expected to bring additional benefits to shareholders and insurers believe that the HKRBC will lead to impacts on the solvency positions as well as the internal operational and decision-making processes.

Financial and operating needs

• 55% of the respondents expect to raise small to large amounts of capital to comply with the HKRBC
• 80% of the respondents expect to revise the reporting processes to address the requirements of Pillar 3
• 60% of the respondents indicate to use new metrics under the HKRBC for decision-making. Of these, two-thirds expect to calculate existing and new metrics in parallel during an initial transition period 

Pillar 1 calculation and modelling

• 60% of the respondents indicated that the assumptions used for HKRBC and IFRS reserve estimates will ultimately be the same with the remaining 40% indicating otherwise
• Half the respondents expect an annual reporting of the RBC results. This is in line with the current Pillar 1 proposals
• The top advantage that insurers see in the HKRBC is reserve sensitivity to risk, followed by management actions in liability modelling, and loss absorption in the capital calculation.

Capital modelling impacts

The industry does not expect significant changes to their current valuation models. While this will reduce the cost of implementation, it suggests that approximations and simplifications will be used in some places under HKRBC.

Expanding the modelling of liabilities

An implication of a simplified approach is that some prudence margins may continue to result in an inflated capital requirement. A benefit of risk based capital is the ability to take credit for the actions of management to reduce the liability valuation. Typically, for insurers to be able to get the full benefit of these actions would require a stochastic calculation. While 80% of our respondents plan to use a stochastic valuation methodology, 60% of respondents do not plan to match this with an expanded management action modelling plan.

Risk management impacts

Companies have work ahead in order to prepare for and implement the ERM framework under the RBC regime. Survey results demonstrated that though the industry is confident in its readiness for updated requirements around risk monitoring and management, readiness is in fact mixed and some gaps remain to be addressed.

Firms across the industry will find that the most work ahead involves preparing for the new ORSA requirements under RBC. Firms should also expect to regularly review ERM frameworks under RBC, and ensure that review results are fed back to ensure continued effectiveness.

Reporting impacts

Hong Kong insurers expect that Pillar 3 will require hiring new resources, and some expect to implement new reporting systems.

Although the disclosure proposals for HKRBC have not yet been set out, 89% of respondents believe they would have to hire more resources, while 33% say they would also have to implement a new disclosure system.

Conclusion

We are going to see a new chapter in the insurance industry in Hong Kong as the players transform themselves to meet the mounting regulatory requirements.

Progress in the studies for Pillars 1 and 2 is visible. In the meantime, there will need considerable development work on valuation models and capital frameworks, the ERM frameworks and alignment across the risk governance units. The industry expects to devote further energy to fulfil the reporting requirements of Pillar 3. Through advance planning and comparison with other 3-pillar frameworks, firms may put themselves in an optimal position to react when details on Pillar 3 are released.