The European Insurance and Occupational Pensions Authority (EIOPA) has outlined three key challenges insurers face under Solvency II.
EIOPA's chairman Gabriel Bernardino warned EIOPA would closely monitor the following issues: investment behaviour, product availability and ORSA.
Speaking at the international conference "Solvency II: What Can Go Wrong?" in Ljubljana, organised by Insurance Supervision Agency of Slovenia, Bernardino said the regime could change the investment behaviour of firms.
He said in a period of low interest rates companies would find ways to increase the income of their portfolios but said "search for yield" could increase additional risks for the insurer by investing in new asset categories or increasing concentrations in certain specific assets.
"The asset risk calibration in Solvency II is not designed to give any particular incentives to specific assets," he said.
"If the regime creates incentives that are not properly aligned with risks we will see the emergence of price distortions and vulnerabilities."
EIOPA published a series of discussion and consultation papers earlier this year about the calibration of long-term investments and the relevant additional risk management requirements. It is currently reviewing the feedback received and will submit its advice to the EU Commission by the end of September.
Bernardino warned product availability could be reduced if insurers became more risk conscious and avoided selling high-risk products. He said unsustainable business models should be avoided but the regime did not intend to "unduly penalise specific products".
"Applying a risk-based regime does not mean that insurers should avoid risk," he said.
He believed with matching adjustment and volatility adjustment companies could continue to provide long-term products to their clients, but they would need to price their products correctly.
Bernardino also said firms would be making a "dramatic error" if they put emphasis on capital requirements while making own risk and solvency assessment (ORSA) a second priority.
He said risks and capital should be assessed "in an integrated way" and this integration was one of the core principles of the regime.
Bernardino also added that insurers needed to make sure Solvency II is implemented "in a sound and proportionate way" and should not view the regime as "compliance".
Boards should use the regime as an opportunity to reinforce good governance in the organisation. For supervisors, he said Solvency II should be viewed as a "risk-based supervision" and not a "tick the box" exercise.