international insurance society conference management strategies in multi-year enterprise risk...
TRANSCRIPT
International Insurance Society Conference
Management Strategies in Multi-Year Enterprise Risk Management
Remarks Prepared By
Joan Lamm-Tennant, PhDGlobal Chief Economist & Risk StrategistGuy Carpenter, LLC
Adjunct ProfessorWharton School, University of Pennsylvania
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Overview
Alternative model design
Relevance of multi year assessment coupled with scenario testing
What problem are we trying to solve by allocating capital?
Management Strategies in Multi-Year Enterprise Risk Management
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Strategy for “measuring” and “financing” riskModel design
Asset class proxies
Duration/maturity
credit
Correlated loss events
Frequency and severity distributions
Reinsurancedefault
Credit ratingsrecoveries
Reserve adjustments
Severity distributions
Catastrophe event tables
Aggregated losses
Operational risk event tables
Aggregated losses
EarningsEarnings
EconomicEconomiccapitalcapital
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Mean Probability of Surplus over 5 YearsAll Scenarios
Scenario Probability 2010 2011 2012 2013 2014Base Mean $ 5.41 B $ 5.65 B $ 5.93 B $ 6.24 B $ 6.60 B
Rapid Growth Mean $ 5.37 B $ 5.31 B $ 5.02 B $ 4.62 B $ 4.24 BBase wLR Deterioration Mean $ 5.40 B $ 5.60 B $ 5.80 B $ 5.97 B $ 6.15 B
Rapid Growth wLR Deterioration Mean $ 5.36 B $ 5.26 B $ 4.82 B $ 4.08 B $ 3.15 BReduced Mkt Shr Mean $ 5.45 B $ 5.73 B $ 6.04 B $ 6.38 B $ 6.76 B
Severe Earthquake Mean $ 4.20 B $ 4.43 B $ 4.70 B $ 4.99 B $ 5.32 BLess $1.6B Surplus Mean $ 3.81 B $ 4.05 B $ 4.33 B $ 4.64 B $ 5.00 B
Less $1B Surplus Mean $ 4.33 B $ 4.48 B $ 4.68 B $ 4.90 B $ 5.16 B
Year-end
If planned results are achieved and no shocks are experienced, the company remains healthy in all scenarios
Growth is the more detrimental situation, magnified by deteriorating results
Subtracting Surplus has a proportional impact on results
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99% (1 in 100) Probability of Surplus over 5 YearsAll Scenarios
Scenario Probability 2010 2011 2012 2013 2014Base 1 in 100 $ 2.08 B $ 1.06 B $ 0.92 B $ 0.42 B ($ 0.35 B)
Rapid Growth 1 in 100 $ 2.04 B $ 0.71 B ($ 0.06 B) ($ 1.42 B) ($ 3.33 B)Base wLR Deterioration 1 in 100 $ 2.07 B $ 1.01 B $ 0.78 B $ 0.15 B ($ 0.86 B)
Rapid Growth wLR Deterioration 1 in 100 $ 2.03 B $ 0.65 B ($ 0.29 B) ($ 2.10 B) ($ 4.88 B)Reduced Mkt Shr 1 in 100 $ 2.12 B $ 1.13 B $ 1.03 B $ 0.61 B ($ 0.13 B)
Severe Earthquake 1 in 100 $ 0.87 B ($ 0.16 B) ($ 0.31 B) ($ 0.82 B) ($ 1.63 B)Less $1.6B Surplus 1 in 100 $ 0.48 B ($ 0.54 B) ($ 0.68 B) ($ 1.18 B) ($ 1.95 B)
Less $1B Surplus 1 in 100 $ 1.00 B ($ 0.11 B) ($ 0.33 B) ($ 0.91 B) ($ 1.79 B)
The 2010 loss of Surplus is relatively high– Greater than 60% loss in even the Base Case
Rapid growth with deteriorating results is the worst-case for the timeframe
Removing $1B creates a 1 in 100 chance of insolvency in 2011
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What Problem Are We Trying To Solve By Allocating Capital?
Financial markets
Cost of capital
Accept investments, but are we receiving enough return for the risk?
Reject investments, but the return compensates well for the risk and would lower the cost of capital
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Benefits of aligning risk management with financial management Improves operational and financial decision making
Supports profitable growth– Identify each business segment’s contribution to enterprise risk– Riskier business units consume more economic capital (more
risk – more capital)– Benchmark performance relative to capital consumed
Risk-adjusted returns
Drives capital efficiencies– Optimizes the deployment of capital
Framework for hedging/reinsurance
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2%Prob.Net
2%Prob.Gross
Aligning risk management with financial managementExample of hedging strategy
Gross Economic Capital
Gross Expectation
Income$0
Hedging reduces volatility By giving up some upsideand expected profit
(cost of hedging)In exchange for downside protection
Net Economic Capital
NetExpectation
Freeing up capital