Solvency II: Internal models – modelling of the matching adjustment - PS19/18
Published on 13 July 2018
Overview
This Prudential Regulation Authority (PRA) Policy Statement (PS) provides feedback to responses to Consultation Paper (CP) 24/17 ‘Solvency II: Internal models - modelling of the matching adjustment’. It also provides the final Supervisory Statement (SS) 8/18 of the same title (see Appendix) and an updated version of SS17/16 ‘Solvency II: internal models – assessment, model change and the role of non-executive directors’.
This PS is addressed to UK Solvency II firms and to the Society of Lloyd’s and its managing agents. It is most relevant to firms with, or seeking, matching adjustment (MA) approval and that use a full or partial internal model to determine the Solvency Capital Requirement (SCR), together with UK Solvency II firms making an assessment as to the appropriateness of the standard formula for their risk profile.
Summary of responses
The PRA received nine responses to the CP. Respondents generally welcomed the additional clarity on the PRA’s expectations regarding the modelling of the MA for the purpose of calculating the SCR. However, respondents also raised several specific issues regarding the details of the proposals, particularly in respect of the risks that need to be allowed for when modelling the MA and considerations to be taken into account when rebalancing MA portfolios in order to maintain MA compliance in stress. There were also a number of points on which further clarification was requested.
The details of the responses and the PRA’s feedback and final decisions are set out in Chapter 2.
Implementation and next steps
The expectations set out in the attached SS8/18 will come into effect on the publication of the PS on Friday 13 July 2018.
The expectations set out in SS8/18 primarily apply to the risks arising from corporate bond assets within firms’ MA portfolios. However, much of SS8/18 could also be applied to other assets held in the MA portfolio and the PRA therefore expects firms to consider its content to be more widely applicable unless specifically stated otherwise. The PRA may issue further, more bespoke, expectations for the treatment of other assets within the MA portfolio as required. These will also be open to consultation and may be implemented as a new SS or as an amendment to this SS.
Policy Statement 19/18 Appendices
Solvency II: Internal models - modelling of the matching adjustment - CP24/17
Background
This consultation paper (CP) seeks feedback on a draft supervisory statement (SS) setting out the Prudential Regulation Authority’s (PRA) proposed expectations of firms regarding the application of the Solvency II matching adjustment (MA) within the calculation of the Solvency Capital Requirement (SCR).
The CP is addressed to UK Solvency II firms and to the Society of Lloyd’s and its managing agents. It is most relevant to firms with or seeking MA approval and which use a full or partial internal model to determine the SCR, together with UK Solvency II firms when making an assessment as to the appropriateness of the standard formula for their risk profile.
Summary of proposals
The purpose of the proposals in this CP is to update and consolidate all of the PRA’s expectations regarding the modelling of the MA in internal models into a single SS in order to provide clarity.
The PRA recognises that the MA requirements were finalised later than other elements of the Solvency II Directive. This presented internal model development challenges for firms seeking to reflect the MA in their models ahead of Solvency II day 1. The PRA is aware that, as a result, a number of firms may wish to make changes to their existing modelling approaches for the MA. There are also likely to be new firms seeking to obtain approval for models that cover the MA. The PRA recognises the complexity involved in modelling the MA for the purposes of calculating the SCR but also the risk management benefits of doing so. The PRA therefore seeks to support firms wishing to develop models in this area by giving more clarity as to its expectations of appropriate practice.
The draft SS (Appendix 1) sets out the full proposals on which the PRA is consulting. As a consolidated draft SS it includes an updated Chapter 3 from SS17/16 ‘Solvency II: internal models – assessment, model change and the role of non-executive directors’; the proposed amendments to SS17/16 are shown in Appendix 2.
Responses and next steps
This consultation closed on Friday 9 March 2018. The PRA invites feedback on the proposals set out in this consultation. Please address any comments or enquiries to CP24_17@bankofengland.co.uk.