Rosalind Rossouw re-examines the capital management actions taken by firms during the COVID-19 pandemic
As part of the IFoA’s COVID-19 Action Taskforce, a group of life actuaries researched the capital management actions taken by life insurers both before and during the COVID-19 crisis, and published these in a blog in October 2020 (bit.ly/Hindsight-foresight).
Almost two years on, I have revisited a few of the findings, examined the evolution of the capital management actions taken, and identified whether any alternative actions have since been considered. The capital management actions described here have been derived from the Solvency and Financial Condition Reports (SFCRs) of a sample of UK life insurers and reinsurers during the past three year-end reporting periods, on the basis that these will provide a representative view of the broader capital management actions taken since COVID-19 first emerged. To maintain confidentiality, the names of the insurers sampled are not directly quoted.
Hedging strategies and ALM
In 2020 we found that firms were reviewing their hedging and asset and liability management (ALM) strategies. The later SFCRs confirm that insurers’ most substantial capital management has been to actively change their hedging strategies and strategic asset allocation positions, although this may not be solely due to the pandemic. A combination of actions has been adopted, mostly to reduce exposure to equity, credit and interest rate risks. Between the insurers, actions included:
- A review of balance sheet exposures with actions (not specified) taken to further reduce sensitivities to economic shocks
- Tactical derivative hedges
- Asset disposals
- The introduction of internal hedges and the continued maintenance of existing external hedging arrangements
- The implementation of currency hedges.
Dividends and monitoring
In 2020, insurers had existing capital plans that included the reduction or non-payment of planned dividends and any other appropriate management actions to strengthen the capital position in the event of a market downturn. Where insurers had responded to the call from regulatory bodies in April 2020 to postpone or suspend paying dividends, SFCRs indicated that they either declared an additional dividend after original suspension or retained their foregone 2019 dividend and rebased their 2020 interim dividend.
Following the initial pandemic outbreak, insurers also increased the frequency of their solvency monitoring, both to monitor the impacts of market volatility on the solvency position and to assess the current affordability of any (possibly deferred) dividend. More than two years on, SFCRs indicate that regular monitoring is ongoing and firmly embedded into insurers’ capital processes.
In fact, solvency monitoring has again come into the spotlight in the most recently published SFCRs in the context of the market volatility associated with Russia’s invasion of Ukraine, affirming the importance of the more frequent monitoring introduced during the pandemic.
Closely related to monitoring, some insurers deemed the market volatility experienced during 2020 and associated uncertainty material enough to trigger a non-regular Own Risk and Solvency Assessment update.
Stress and sensitivity testing
Details of the additional stress and sensitivity testing included in SFCRs varied. Some insurers indicated that the frequency and coverage of stress and scenario testing had increased. SFCRs continued to highlight that, in reality, stresses do not occur in isolation, and there were examples of insurers testing their ability to respond to both individual and combined shocks and considering the impacts of additional market stresses. Tests included a severe market event, multiple adverse scenarios of increasing severity, and reverse stress testing.
One particularly interesting example emerged from comparison of year-end SFCRs: during 2020, an insurer had mainly focused its testing on the risks of a deeper-than-expected COVID-19 event. It also established an additional reserve during 2020 to cover the uncertain future impacts of the pandemic, including additional lapses. In contrast, its year-end 2021 SFCR noted that stress testing under a COVID-19 scenario had not been performed in 2021 due to the limited adverse demographic experience attributed to COVID-19 since March 2020, and that any market volatility was captured by existing economic sensitivity testing.
Capital model demographic assumptions
In 2020, SFCRs stated that it was too early to understand the impact of changing mortality, policyholder behaviour and new business on short-term and longer-term capital projections. The year-end 2021 SFCRs reviewed continued to reflect the future uncertainty surrounding how assumptions might evolve. The later SFCRs echoed that the impact of the pandemic on mortality and persistency, particularly on longer-term trends, remained unclear and would take time to emerge, and that this uncertainty might also be exacerbated in models where persistency and mortality are dependent on economic assumptions.
Where demographic assumptions
were revised, approaches varied – some insurers only revised mortality assumptions in geographies where mortality had substantially changed following the pandemic; others updated mortality and morbidity assumptions and made an allowance for the pandemic’s impact, but kept future long-term economic assumptions under review, particularly where these allowed for the possible future adverse impact of the pandemic. Where no changes had been made to the 2020 annuitant mortality assumptions following COVID-19, SFCRs indicated that this would be an area of continued monitoring.
Other management actions and changes
During 2020, one insurer withdrew its 2019–21 financial targets and announced a new strategy and set of financial targets, which included an expense savings programme. In 2021, another insurer reflected the intention to reduce its target operating expenses below a threshold in combination with the introduction of a minimum charge on its unit-linked policies, with both 2021 capital initiatives resulting in operational capital benefits. Insurers also continued to monitor reinsurance arrangements in place to limit mortality and morbidity exposures.
Most insurers sampled have implemented operation frameworks or response plans that would enable senior management to respond quickly if a solvency position deteriorates below a particular threshold. One insurer noted that while its system of governance had not materially changed, the frequency of board-level and management committee meetings had been increased in response to COVID-19, and additional crisis management procedures put in place.
A different perspective
Although not explicitly reflected in the majority of the SFCRs reviewed, one SFCR recognised that “the crisis was an earnings event and not a capital event”. SFCRs confirmed that insurers have experienced a (significant) reduction in premium volumes following the pandemic (with one insurer even highlighting the deliberate reduction of new business sales in certain markets and products as a management action). The SFCRs reviewed also indicated that insurers have continued to maintain strong solvency levels and expect to continue to meet their capital requirements.
In a more detailed analysis of year-end 2020 SFCRs by Milliman (bit.ly/Milliman_life_solvency), the European average solvency capital requirement coverage ratio for the 730 insurers in its sample fell from 232% (year-end 2019) to 223% (year-end 2020). Although insurers didn’t observe a more significant reduction in solvency ratios, there is some evidence to suggest that the COVID-19 pandemic and the associated market impacts likely contributed to this reduction during 2020. I believe that these reductions could have been more severe had it not been for the extensive capital management actions taken to not only protect but to also improve capital positions and efficiency.
Rosalind Rossouw is head of IFRS 17 business implications and capital management at Sun Life Financial of Canada, an IFoA Sustainability Board member and the 2022 IFoA Life Conference Chair
