21 December 2017

EIOPA calls for Consistent Supervisory Practises on Internal Models

The EIOPA issued an Opinion on the supervisory assessment of internal models including a dynamic volatility adjustment (DVA). The Opinion is addressed to national supervisory authorities and stresses the importance of common supervisory practices and approaches throughout the European Union as regards the use of internal models.

The volatility adjustment (VA) is one of the measures of the “Long-Term Guarantee Package” linked with the Solvency II valuation of insurance contracts with long-term guarantees. It aims at stabilising the Solvency II balance sheet during short periods of high market volatility by adding an extra spread component to the discount rate used for the calculation of technical provisions.

This Opinion considers internal models making use of a DVA by allowing the VA to move in line with the modelled credit spreads during the 1-year forecast of basic own funds. 

According to EIOPA’s assessment, the DVA modelling is an area where supervisory convergence needs to be reinforced.

When using the DVA, undertakings should ensure a prudency principle, meaning that the internal model should produce a SCR guarantying a level of policyholder protection that is at least as high as if replicating the “EIOPA VA Methodology”.

A holistic view should be taken in the supervisory assessment of modelling and risk-management aspects. This means on the one hand that all tests and standards on internal models apply and on the other hand that no undesirable risk management incentives should be allowed. 

Undertakings have to provide the explanation of the DVA methodology in the Solvency and Financial Condition Report in order to fulfil the Solvency II disclosure requirements.

Press release

Opinion

© EIOPA