08 November 2012

Risk.net: Insurers hope for agreement on long-term guarantees assessment

Insurers want the impact assessment period, which is expected to last eight weeks, to begin as soon as possible, in order to limit any overlap with the financial reporting calendar, as this could disrupt the process and lead to further delays in the legislative process. Negotiations to finalise Omnibus II will not resume until after the long-term guarantees assessment has been completed.

How the matching adjustment, which is used to protect insurers from credit spread volatility of assets that are held to maturity, will be tested in the impact assessment is a key area of concern for insurers. An initial draft of the terms of reference said that the assessment would examine three versions of the matching adjustment: a ‘classical' version that is very restrictive in its application and two extended versions.

The extended versions are more liberal in terms of the liability cashflows and assets to which the matching adjustment can be applied. One of the extended versions, the alternative version, is the insurance industry's interpretation of the matching adjustment and is potentially the most permissive version of the matching adjustment, according to those familiar with the discussions. The two extended versions – the regular extended version and the alternative version – have been controversial and there has been much debate over the specifications of each.

Insurers are lobbying to include qualitative questions to assess how the proposed extrapolation method will affect risk management. Under the current proposals, the risk-free yield curve would be extrapolated from the last liquid point – set at 20 years – to an ultimate forward rate of 4.2 per cent. This will significantly change the interest rate sensitivity of liability cashflows and, as a result, insurers' hedging policies.

Insurers say that a quantitative assessment alone will not adequately show the hedging implications of the extrapolation method.

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