Minimum Capital Test

Regulatory Capital

To put the purpose of this in perspective please see OFSI’s Guideline A4: 

Regulatory Capital and Internal Capital Targets [you can thank me later]…

This is not tested, but does a better job putting ORSA [Target], MCT [Supervisory & Minimum] in perspective and provides nice clear definitions of each.

Insurance Risk

Insurance risk is the risk arising from the potential for claims or payouts to be made to policyholders or beneficiaries.

 

Market Risk

Market risk arises from potential changes in rates or prices in various markets such as for interest rates, foreign exchange rates, equities, real estate, and other market risk exposures.

 

Credit Risk

Credit risk is the risk of loss arising from a counterparty’s potential inability or unwillingness to fully meet its contractual obligations due to an insurer.

 

Operational Risk

Operational risk is the risk of loss resulting from inadequate or failed internal processes, people and systems or from external events.

 

Diversification

Consequently, an explicit credit for diversification is permitted between the sum of credit and market risk [and credit risk] requirements, and the insurance risk requirement

 

Capital Availible

adequacy and appropriateness of capital resources used to meet capital requirements, having regard to their ability to meet P&C insurers’ obligations to policyholders and creditors and to absorb losses in periods of stress.

Insurance Risk

  • + Unpaid.Discounted x PF
  • + Unearned.Discounted x PF
  • + Earthquake Risk (un-insured earthquake)
  • + Reinsruance Margin

 



Earthquake

Earthquake Risk Exposure (E.Risk)

  • PML500 = (PML500.West1.5 + PML500.East1.5)1/1.5
  • PML420 = MAX(PML420.West + PML500.East)
  • PML420 = PML250 x 32% + PML500 x 68%.
  • Option: PTIV – Deductible

Financial Resources (Fin.Res)

  • + 10% of Capital (Equity)
  • + Earthquake Reinsurance
  • + Earthquake Premium Reserve (EPR: generally 0)
  • + Capital Financing (generally 0)

Earthquake Reserve Component

Risk – Resources:

  • ERC = E.Risk – Fin.Res (> 0)

Earthquake Reserves

  • ER = (EPR + Max(E.Risk – Fin.Res, 0)) * 125%
  • Again EPR is generally = 0.



Reinsurance

Premium & Claims (X)

  • Unearned Premiums Ceded + Outstanding Losses recoverable

Acceptable Collateral (A.Coll)

  • + Non-owned deposits
  • + Letters of Credit (capped @ 30% of [X])
  •  – [X]
  • – Reinsurance Receivable

Margin Required (must be >0)

  •  (15% x [X]) – A.Coll
  • Note: A.Coll must be > 0

 

Market Risk

Interest Rate Risk (non risky)

  • Margin = Sum of all… [Dollar Value] x [Duration] x [∆y]
  • = | Margin.Assets – Margin.Liab | + Margin.Derivatives

Equity Risk (risky)

30% x …

  • Common Shared
  • Joint Ventures (< 10% owned)
  • Futures, Forwards, Swaps

Real estate (less risky)

  • 20% x [Rented]
  • 10% x [Owner occupied]

Other Exposures & Foreign Exchange

 

 

 

Credit Risk

Will typically given by CAS.  Students should be aware of adjustments for re-insurance.

Operation Risk

Capped @

  • 30% x [I + A]
  • I = Insurance Risk
  • A = Asset Risk = Credit Risk + Market Risk

If below cap:

8.5% x [I + A] + P

  • Premium Margin (P) = 2.5% DWP + 1.75%  AWP + 2.5% x CWP + 2.5% ∆P + 0.75% IGP
  • ∆P = Gross WP > 20%
  • IGP = Max(P.aig, P.cig) = Inter group pooling
  • Gross = Assumed (A) + Ceded (C)
  • D = Direct , WP = Written Premium
  • Memorizing percentages optional (but recommended)

 

Diversification Credit

Just memorize it already. Deduct the following from Capital Required to adjust for risk diversification:

A + I – SQRT(A2 + I2 + 2RAI)

 

 

Capital Availible

Gross Capital Available is defined as Equity less deductions for category B (40%) & category C (7%) surplus.

Total Capital Available is Gross Capital Available less deductions for non-qualifying equity (such as goodwill).